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The Roles of the Government and Fed in Macroeconomics

Two important policy goals of the government and the Fed are to keep unemployment and inflation low, while at the same time making sure that GDP is increasing at an average of 3% per year. It is important to have the right mix of policies and that all the variables be timed perfectly.

Part 1: Assume that the country is in a period of high unemployment, interest rates are at almost zero, inflation is about 2% per year, and GDP growth is less than 2% per year.

  • Suggest how fiscal and monetary policy can move those numbers to an acceptable level keeping inflation the same.
  • What is the first action you would take as the president? As the chairman of the Fed? Why?
  • What would be your subsequent steps?
  • Make sure you include both the positive and negative effects of your actions, and include the trade-offs or opportunity costs.

Include the following concepts in your discussion:

  • Demand and supply of money
  • Interest rates
  • The Phillips curve
  • Taxation
  • Government spending
  • Wages
  • Costs of inflation
  • The multiplier and the tax multiplier
  • The idea of tax rebates to stimulate the economy

Part 2: Assume that the country is in a budget deficit and carrying a very large debt. Discuss the dangers of a high debt to GDP ratio and a growing budget deficit. Would this affect any policy changes you discussed in Part 1?

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Category: Sample Questions