## Economic Stimulus and Tax Cuts: Understanding Effectiveness### Key Considerations for Tax Cut Effectiveness in Stimulating Aggregate DemandA temporary tax cut may not be effective in stimulating aggregate demand under the following conditions:1. **The Marginal Propensity to Consume (MPC) is Relatively High.** - When individuals are likely to save rather than spend additional income from a tax cut, aggregate demand may not significantly increase.2. **The Tax Cut is Large.** - Contrary to expectation, if a tax cut is too large, it might lead to inefficiencies or imbalances that fail to stimulate aggregate demand effectively.3. **The Economy Experiences a Contractionary Gap.** - In situations where the economy is already undergoing a contraction, temporary tax cuts may not suffice to counteract the deeper economic downturns.4. **People Base Consumption Decisions on Their Level of Permanent Income.** - If consumers are forward-looking and base their spending on long-term expected income rather than temporary changes, a short-term tax cut would have a minimal impact on aggregate demand.5. **The Short-Run Aggregate Supply Curve is Relatively Flat.** - A flat short-run aggregate supply curve implies that output does not change much with variations in price levels, meaning that tax cuts may not lead to substantial changes in aggregate demand.### Visual Explanation (for diagrams)While this document does not include any graphical representation, understanding how these factors interplay with graphical economic models (such as the Aggregate Supply and Aggregate Demand model) can be beneficial. For instance, a flat short-run Aggregate Supply curve suggests that price levels do not increase readily with increases in demand, hence limiting the impact of demand-stimulating policies like tax cuts.

Taxation shows the act of imposing an involuntary levy on income, capital gains estates, property,…

A temporary tax cut is not likely to be effective in stimulating aggregate demand if: O a. the MPC is relatively high. O b. the tax cut is large. O . the economy experiences a contractionary gap. O d. people based consumption decisions on their level of permanent income. O e. the short-run aggregate supply curve is relatively flat.

A temporary tax cut is not likely to be effective in stimulating aggregate demand if: O a. the MPC is relatively high. O b. the tax cut is large. O . the economy experiences a contractionary gap. O d. people based consumption decisions on their level of permanent income. O e. the short-run aggregate supply curve is relatively flat.

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

Problem 1QTC

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