Section B: Exemplar Test/Exam Questions

5. Using a fully labelled Aggregate Demand diagram, demonstrate and explain how the multiplier process operates following an increase in government expenditure (all other things remaining constant). What type of multiplier would this increase in expenditure be called, and what would determine (in a world of no taxes) how big the multiplier would be?

6. Using at least two examples, define what an automatic stabiliser is. Using an appropriate diagram, explain how such stabilisers operate to reduce the amplitude of the business cycle. What are the advantages of an automatic stabiliser compared to discretionary government expenditure?

7. The newly elected Coalition Government of 2020 decides to make two changes to government policies: (1) a reduction in family benefits and unemployment benefits; and (2) increased government expenditure on infrastructure (roads and rail).

Using a fully labelled Aggregate Demand diagram, identify and locate an initial equilibrium prior to these changes being introduced. Use your diagram to explain the effect on the Aggregate Demand curve and location of the new equilibrium following the new policy (1) of reducing family benefits and unemployment benefits. Once the economy has settled at this new equilibrium, the government then introduces policy change (2) - increased expenditure on infrastructure. Using the same diagram, explain the effect on the Aggregate Demand curve and the location of this final, new equilibrium.

Will these two new policies lead to an increase or decrease in Aggregate Demand/Income overall? Explain the reasoning behind your answer.