8. The goal o economy. Economists and politicians quote numbers like \"k million
ID: 1104276 • Letter: 8
Question
8. The goal o economy. Economists and politicians quote numbers like "k million jobs and a net stimulus to the economy of n billion of dollars." Where do they get these numbers? Let's consider one aspect of a stimulus package: tax cuts. Economists understand that tax cuts or rebates can result in long-term spending that is many times the amount of the rebate. For example, assume that for a typical person, 75% of her entire income is spent (that is, put back into the economy). Further, assume the government provides a tax cut or rebate that totals P dollars for each person. f a federal government stimulus package is to positively affect the a. The tax cut of P dollars is income for its recipient. How much of this tax cut will be spent? In this simple model, we will say that the spent portion of the tax cut/rebate from part (a) then becomes income for another person who, in turn, spends 75% of this income. After this . 'second round" of spent income, how many total dollars have been added to the economy as a result of the original tax cut/rebate? This second round of spending becomes income for another group who spend 75% of this income, and so on. In economics this is called the multiplier effect. Explain why an original tax cut/rebate of Pdollars will result in multiplied spending of b. C 2 0.75P(1 +0.75 -0.752 +) dollarsExplanation / Answer
A.
As per the given data, marginal propensity to consume (MPC) = .75
Hence, portion of P (received via tax cut) to be spent = MPC*P = .75*P
B.
Tax multiplier = MPC/MPS = .75/(1-.75) = 3
Hence,
Total Dollars added to the economy (due to tax cut of P) = 3*P or 3P
C.
The Spending by the first person = MPC*P = .75P
This spending becomes income of the second person that is .75P.
Hence, Spending by the second person = MPC*.75P = .75*.75P or (.75)^2 *P
On a similar note,
Spending by the third person = (.75)^3 *P and the spending goes ahead with income to the nest person
As a result,
Total spending = .75P +.75^2 *P +.75^3 *P +.75^4 *P +.75^5 *P ……….
Total spending = .75P*(1+.75+.75^2 + .75^3 + .75^4 + ……….)
Related Questions
drjack9650@gmail.com
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.