4. The multiplier effect of a change in government purchases Consider a hypothet

Question

4. The multiplier effect of a change in government purchases Consider a hypothetical closed economy in which households spend $0.65 of each additional dollar they earn and save the remaining $0.35 The marginal propensity to consume (MPC) for this economy is , and the spending multiplier for this economy is Suppose the government in this economy decides to decrease government purchases by $350 billion. The decrease in government purchases will lead to a decrease in income, generating an initial change in consumption equal to second change in consumption equal to . This decreases income yet again, causing a ·The total change in demand resulting from the initial change in government spending is The following graph shows the aggregate demand curve(AD) for this economy before the change in government spending. Use the green line (triangle symbol) to plot the new aggregate demand curve (AD) after the multiplier effect takes place. For simplicity, assume that there is no "crowding out." Hint: Be sure that the new aggregate demand curve (AD2) is parallel to the initial aggregate demand curve (AD). You can see the slope of AD, by selecting it on the graph.

Explanation / Answer

The MPC=c=0.65

Spending multiplier=1/1-c=2.86

Initial alteration in the Consumption=$350billion x0.65=$227.5 billion

2nd change in the consumption=$227 billionx0.65=$147.88 billion

overall change in the demand=one trillion one billion dollars

Related Questions

Navigate

• Browse (All)
• Browse 4
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.