4. The multiplier effect of a change in government purchases Suppose there is some 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 increase government purchases by $400 billion. The increase in government spending will lead to an increase in income, creating an initial change in consumption equal to . This increases income yet again, leading to 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 (ADI) 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 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 (AD₁). You can see the slope of AD₁ by selecting it on the graph. 40 140 135 AD₁ A AD (?) PRICE LEVEL Use the green line (triangle symbol) to plot the new aggregate demand curve (AD₂) after the multiplier effect takes place. For there is no "crowding out." Hint: Be sure that the new aggregate demand curve (AD₂) is parallel to the initial aggregate demand curve (AD₁). You can se selecting it on the graph. 140 AD 1 135 130 125 120 115 15 110 105 06 100 0 1 2 3 4 5 OUTPUT (Trillions of dollars) 6 7 8 A AD₂ (?
4. The multiplier effect of a change in government purchases Suppose there is some 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 increase government purchases by $400 billion. The increase in government spending will lead to an increase in income, creating an initial change in consumption equal to . This increases income yet again, leading to 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 (ADI) 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 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 (AD₁). You can see the slope of AD₁ by selecting it on the graph. 40 140 135 AD₁ A AD (?) PRICE LEVEL Use the green line (triangle symbol) to plot the new aggregate demand curve (AD₂) after the multiplier effect takes place. For there is no "crowding out." Hint: Be sure that the new aggregate demand curve (AD₂) is parallel to the initial aggregate demand curve (AD₁). You can se selecting it on the graph. 140 AD 1 135 130 125 120 115 15 110 105 06 100 0 1 2 3 4 5 OUTPUT (Trillions of dollars) 6 7 8 A AD₂ (?
Chapter11: Fiscal Policy
Section: Chapter Questions
Problem 1.4P
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Transcribed Image Text:4. The multiplier effect of a change in government purchases
Suppose there is some 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 increase government purchases by $400 billion. The increase in government spending will lead
to an increase in income, creating an initial change in consumption equal to
. This increases income yet again, leading to 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 (ADI) 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 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 (AD₁). You can see the slope of AD₁ by
selecting it on the graph.
40
140
135
AD₁
A
AD
(?)
Transcribed Image Text:PRICE LEVEL
Use the green line (triangle symbol) to plot the new aggregate demand curve (AD₂) after the multiplier effect takes place. For
there is no "crowding out."
Hint: Be sure that the new aggregate demand curve (AD₂) is parallel to the initial aggregate demand curve (AD₁). You can se
selecting it on the graph.
140
AD
1
135
130
125
120
115
15
110
105
06
100
0 1
2 3
4
5
OUTPUT (Trillions of dollars)
6
7 8
A
AD₂
(?
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