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Scenario: Fiscal Policy
Consider the economy of Arcadia. Its households spend 75% of increases in their income. There are no taxes and no foreign trade. Its currency is the arc. Potential output is 600 billion arcs.
-(Scenario: Fiscal Policy) Look at the scenario Fiscal Policy. If actual output is 500 billion arcs, to restore the economy to potential output the government should _____ by 25 billion arcs.
A)increase taxes
B)decrease taxes
C)increase spending
D)decrease spending

Question

Quizplus · Accepted Answer

Since households spend 75% of their income, increasing government spending will increase their income and thus increase their consumption expenditures. This will stimulate the economy and bring it closer to potential output. Therefore, the government should increase spending by 25 billion arcs.

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