A government is currently operating with an annual budgetdeficit of $40 billion.

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A government is currently operating with an annual budgetdeficit of $40 billion. The government has determined that:Every $10 billion reduction in the amount of bonds it issues eachyear would reduce the market interest rate by 0.1 percentagepoint.Every 0.1 percentage point change in the market interest rategenerates a change in planned investment expenditures in theopposite direction equal to $5 billion. The marginal propensity toconsume is 0.75.To eliminate an inflationary gap and take into account theresulting change in the price level the government must generate anet leftward shift in the aggregate demand curve equal to $40billion.Assuming that there are no direct expenditure offsets to fiscalpolicy how much should the government increase taxes? Explain bygiving appropriate reasons.

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