Question

Crystal lives in the fictional country of Cuse, which raises government revenue by taxing everyone the same amount. The government of Cuse has just implemented a tax cut that reduces annual taxes by $2,500 per person. However, government spending has not changed, nor is it likely change in the future. The tax cut has raised Crystal's income by $2,500. If Crystal acts according to the prediction of new classical economics (and doesn't plan to leave Cuse), her consumption is likely to increase by_______ .
Suppose that instead of cutting taxes while keeping its spending the same, the government did the oppo it increased its spending by $2,500 per person while keeping taxes the same. If everyone in Cuse acted like Crystal, the likely increase in aggregate demand would be_______ per person.

Answer 1

Answer: $0; $0

Explanation:

New classical economists believe that any fiscal policy that the government embarks on is ineffective on the goods demanded by people.

If the government reduces taxes, Crystal (according to the New classical) will believe that the government will raise taxes in future to make up for the shortfall so she will send the $2,500 to savings so she can be able to pay off the future taxes.

If the government increases spending, Crystal will believe that this will be financed by future tax increases so she will still save the money to pay off future taxes.