For both political and macroeconomic reasons, governments are often reluctant to run budget deficits. Here, we examine whether we examine whether it is possible to affect output through changes in government spending and taxes while the bu1dget remains balanced. Output is given by:
??=1???1 (??0+??+1??)
1. By how much does Y increase when G increases by one unit?
2. By how much does Y decrease when T increases by one unit?
3. Why are your answers to (1) and (2) different?
Suppose that the economy starts with a balanced budget G=T.
4. Suppose that G and T increase by one unit each. Using your answers to 2 and 3 what is the
change in equilibrium GDP? Are balanced budget changes in G and T macroeconomically
neutral?
5. How does the specific value of the propensity to consume affect your answer? Explain.