Q: What do you think will happen to the steady state value(s) of output when θ changes?
Why does this happen?
Eqn : Y* = G/θ
Y* = National Income in Nominal Terms
G = Pure Government Expenditure in Nominal Terms
θ = Personal Income Tax Rate
A : To maintain a steady state, the values of Y* and G must also change in the same direction at the same ratio.
If θ was to decrease, and both Y* and G were to remain the same, additional funds would have to be borrowed to maintain the level of G. This would result in a trade deficit.
If θ was to increase with both Y* and G remaining the same, there would be a surplus. In such an event, it is likely that the surplus would be used to enhance the incumbent governments standing by budget cuts that appeal to the masses.
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