Amid the global pandemic, economic activity in many countries in the world has decreased substantially causing a significant reduction in tax revenues. Mexico projects a budget deficit of $20 billion dollars next year. The government of Mexico borrows $20 billion more next year than this year from the market for loanable funds. Answer both parts below assuming that Mexico is a closed economy. a) Use a diagram for the market for loanable funds to analyze this policy. Does the interest rate rise or fall? What happens to investment and national saving? Note: make sure you label your diagram properly. b) Suppose households believe that greater government borrowing today implies higher taxes to pay off the government debt in the future. What does this belief do to private saving and the supply of loanable funds today? Does this change the results you discussed in part (a)?

ENGR.ECONOMIC ANALYSIS
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Amid the global pandemic, economic activity in many countries
in the world has decreased substantially causing a significant
reduction in tax revenues. Mexico projects a budget deficit of
$20 billion dollars next year. The government of Mexico borrows
$20 billion more next year than this year from the market for
loanable funds. Answer both parts below assuming that Mexico
is a closed economy.
a) Use a diagram for the market for loanable funds to analyze
this policy. Does the interest rate rise or fall? What happens to
investment and national saving? Note: make sure you label your
diagram properly.
b) Suppose households believe that greater government
borrowing today implies higher taxes to pay off the government
debt in the future. What does this belief do to private saving
and the supply of loanable funds today? Does this change the
results you discussed in part (a)?
Transcribed Image Text:Amid the global pandemic, economic activity in many countries in the world has decreased substantially causing a significant reduction in tax revenues. Mexico projects a budget deficit of $20 billion dollars next year. The government of Mexico borrows $20 billion more next year than this year from the market for loanable funds. Answer both parts below assuming that Mexico is a closed economy. a) Use a diagram for the market for loanable funds to analyze this policy. Does the interest rate rise or fall? What happens to investment and national saving? Note: make sure you label your diagram properly. b) Suppose households believe that greater government borrowing today implies higher taxes to pay off the government debt in the future. What does this belief do to private saving and the supply of loanable funds today? Does this change the results you discussed in part (a)?
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