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Chapter 21: Q9 (page 566)

If an increase in autonomous consumer expenditure is matched by an equal increase in taxes, will aggregate output rise or fall?

Short Answer

Expert verified

Aggregate Output will rise

Step by step solution

01

Introduction 

Aggregate Output is determined where Aggregate Demand = Aggregate Supply.

Aggregate Demand = Consumption + Investment + Government Expenditure + Net Exports ; by households, firms, government, rest of the world.

  • Consumption = Autonomous Consumption + Marginal Propensity to Consume (Disposable Income ie Income - Tax)
02

Explanation 

When autonomous consumption & tax increase by same amount - AD increase by full extent of increase in autonomous consumption, but it decrease by partial extent of 'marginal propensity to consume' (between 0 & 1) due to increase in taxes.

So, consumption overall increases. It implies that AD also increase & increases the equilibrium aggregate output.

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Most popular questions from this chapter

The fiscal stimulus package of 2009 caused the IS curve to shift to the left, since output decreased and unemployment increased after the policies were implemented.” Is this statement true, false, or uncertain? Explain your answer.

If firms suddenly become more optimistic about the profitability of investment and planned investment spending rises by \(100 billion, while consumers become

more pessimistic and autonomous consumer spending falls by \)100 billion, what happens to aggregate output?

Calculate the value of the consumption function at each level of income in the following table if autonomous consumption = 300, taxes = 200, and mpc = 0.9.

Why do increases in the real interest rate lead to decreases in net exports, and vice versa?

Why does equilibrium output increase as the marginal propensity to consume increases?
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