While their exports are larger than GDP, so are their imports. If the government cuts spending to reduce the deficit, the Fed will most likely raise interest rates to make sure the cut in spending doesn t lead to inflation. Rather, the fall in spending would tend to cause inflation to decrease. The Fed may cut interest rates to help offset the negative effects of the cut in spending. This is what happened earlier in the 90's. 7.
Fiscal policy is more effective when consumers marginal propensity to consume is higher.
The multiplier is proportional to the MPC, and the effectiveness of fiscal policy depends on the size of the multiplier. Explain why the rate of change in wages depends on the difference between the unemployment rate and the voluntary unemployment rate. The rate of change in wages depends on changes in the price level because workers care about their real income, i.e. how much they can buy with the money they receive. The constant can reflect many things not covered by the other terms, in particular, productivity growth. We expect that wage growth depends on the amount of involuntary unemployment because it affects workers bargaining power.