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Chapter 13: Q.17 (page 298)

Recall that the Keynesian spending multiplier equals 1 /(1-MPC). Suppose that in panel (a) of Figure 13-1, the government determined that the amount by which the AD curve had to be shifted directly rightward from the point E1 was equal to \(1.0 trillion. If the government decided that a \)0.2 trillion increase in real government spending was required to generate this shift, what must be the value of the MPC?

Short Answer

Expert verified

The value of MPC is0.8

Step by step solution

01

introduction

Marginal Propensity to Consume alludes to the extent of the absolute expansion in discretionary cash flow that families give to utilization.

Spending Multiplier is a proportion of the degree to which GDP changes because of an adjustment of arranged venture spending or government spending.

02

explanation 

Increase in government expenditure = ∆G=$0.2trillion

The rightward shift in the curve AD = role="math" localid="1651934939049" ∆AD=$1trillion

Spending multiplier is calculated as,

=ΔADΔG=10.2=5

Now MPC is calculated,

Spending multiplier×(1−MPC)=1

5−5MPC=1−5×MPC=−4

MPC = 0.8

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Most popular questions from this chapter

Recall that the Keynesian spending multiplier equals 1 /(1-MPC). Suppose that in panel (b) of Figure 13-1, the government knows that the MPC is equal to 0.75 and that the amount of the horizontal distance that the AD curve had to be shifted directly leftward from point E1 was equal to $1.0 trillion. What is the reduction in real government spending required to have generated this shift?

Consider the diagram below, in which the current short-run equilibrium is at point A, and answer the questions that follow.

a. What type of gap exists at point A?

b. If the marginal propensity to save equals 0.02, what change in government spending financed by borrowing from the private sector could eliminate the gap identified in part (a)? Explain.

Explain how time lags in discretionary fiscal policy making could thwart the efforts of Congress and the president to stabilize real GDP in the face of an economic downturn. Is it possible that these time lags could actually cause the discretionary fiscal policy to destabilize real GDP?

Determine whether each of the following is an example of an automatic fiscal stabilizer.

a. A federal agency must extend loans to businesses whenever an economic downturn begins.

b. As the economy heats up, the resulting increase in equilibrium real GDP per year immediately results in higher income tax payments, which dampen consumption spending somewhat.

c. As the economy starts to recover from a severe recession and more people go back to work, government-funded unemployment compensation payments begin to decline.

d. To stem an overheated economy, the president, using special powers granted by Congress, authorizes emergency impoundment of funds that Congress had previously authorized for spending on govemment programs.

Assume that equilibrium real GDP is \( 18.2 trillion and full-employment equilibrium (F E) is \) 18.55 trillion. The marginal propensity to save is 17. Answer the questions using the data in the following graph.

a. What is the marginal propensity to consume?

b. By how much must new investment or government spending increase to bring the economy up to full employment?

c. By how much must government cut personal taxes to stimulate the economy to the full employment equilibrium?
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