government spending shock

Question 1

effect of government spending shock of 1% to ouput

Answer 1

output rises

Question 2

effects of government spending shock of 1% to consumption

Answer 2

consumption declines at the time of the shock and then gradually returns to normal, because taxes rise (as T=G) and households have less dispoable income, so consumption falls.

Question 3

effects of government spending shock of 1% to the interest rate

Answer 3

because of the expected rise in C, the interest rate will rise (as households will want to smooth consumption by trying to borrow and save less)

Question 4

effects of government spending shock of 1% to the capital stock

Answer 4

because households save less, the capital falls slightly.

Question 5

effects of government spending shock of 1% to labor and wages

Answer 5

because consumption drops, marginal utility rises and thus raises L.
the higher interest rate also increases labor supply, as extra effort today translates into higher consumption tomorrow.
because the labor supply rises, the wage falls.