2. The multiplier effect of a change in government purchases Consider a hypothetical closed economy in which households spend $0.80 of each additional dollar they earn and save the remaining $0.20. 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 $300 billion. The decrease in government purchases will lead to a decrease in income, generating an initial change in consumption equal to This decreases income yet again, causing a second change in consumption equal to The total change in demand resulting from the initial change in government spending is The following graph shows the aggregate demand curve (AD1) for this economy before the change in government spending. Use the green line (triangle symbol) to plot the new aggregate demand curve (AD₂) after the spending multiplier effect takes place. Hint: Be sure that the new aggregate demand curve (AD2) is parallel to the initial aggregate demand curve (AD1). You can see the slope of AD₁ by selecting it on the graph. PRICE LEVEL (CPI) 140 135 130 125 120 115 110 105- 100 0 AD₁ 1 6 2 3 4 5 REAL GDP (Trillions of dollars) 7 8 - του Δήμο ▲ AD2
2. The multiplier effect of a change in government purchases Consider a hypothetical closed economy in which households spend $0.80 of each additional dollar they earn and save the remaining $0.20. 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 $300 billion. The decrease in government purchases will lead to a decrease in income, generating an initial change in consumption equal to This decreases income yet again, causing a second change in consumption equal to The total change in demand resulting from the initial change in government spending is The following graph shows the aggregate demand curve (AD1) for this economy before the change in government spending. Use the green line (triangle symbol) to plot the new aggregate demand curve (AD₂) after the spending multiplier effect takes place. Hint: Be sure that the new aggregate demand curve (AD2) is parallel to the initial aggregate demand curve (AD1). You can see the slope of AD₁ by selecting it on the graph. PRICE LEVEL (CPI) 140 135 130 125 120 115 110 105- 100 0 AD₁ 1 6 2 3 4 5 REAL GDP (Trillions of dollars) 7 8 - του Δήμο ▲ AD2
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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Transcribed Image Text:2. The multiplier effect of a change in government purchases
Consider a hypothetical closed economy in which households spend $0.80 of each additional dollar they earn and save the remaining $0.20.
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 $300 billion. The decrease in government purchases will
lead to a decrease in income, generating an initial change in consumption equal to
. This decreases income yet again, causing a
second change in consumption equal to
.The total change in demand resulting from the initial change in government spending is
The following graph shows the aggregate demand curve (AD1) for this economy before the change in government spending.
Use the green line (triangle symbol) to plot the new aggregate demand curve (AD₂) after the spending multiplier effect takes place.
Hint: Be sure that the new aggregate demand curve (AD2) is parallel to the initial aggregate demand curve (AD1). You can see the slope of AD₁ by
selecting it on the graph.
PRICE LEVEL (CPI)
140
135
130
125 +
120
115
110
105 -
100
0
AD₁
1
2
3
4
5
REAL GDP (Trillions of dollars)
B
7
8
όπου ανα
AD₂
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