In the above figures, supposed that there is no import or proportional tax. To pull the economy back to the long-run equilibrium, the government can increase spending by $ trillion. 1) 1 2) 2 3) 8 4) 4 Price level (GDP deflator, 2000 = 100)16015014013012004LASADSAS81216 20 24Real GDP (trillions of 2000 dollars) Real GDP(dollars)102030405060Consumptionexpenditure (dollars)22.53037.54552.560

Marginal propensity to consume (MPC) measures the change in consumption expenditure due to a change in income (or real GDP). Formula:MPC = (Change in consumption expenditure) / (Change in real GDP)___________________________________________________________________________The government spending multiplier measures the change in equilibrium GDP due to change in government expenditure.Formula:Government spending multiplier = 1 / (1-MPC)___________________________________________________________________________According to the above table, for every $10 increase in real GDP, the consumption expenditure will increase by $7.5 i.e., change in real GDP = $10change in consumption expenditure = $7.5MPC = (change in consumption expenditure) / (change in real GDP)=> MPC = ($7.5) / ($10)=> MPC = 0.75Hence, MPC is 0.75_______________________________________Government spending multiplier = 1 / (1-MPC)=> Government spending multiplier = 1 / (1-0.75)=> Government spending multiplier = 1 / 0.25=> Government spending multiplier = 4Hence, the government spending multiplier is 4__________________________________________The short run equilibrium real GDP is $8 trillion.The long run equilibrium real GDP is $12 trillion. To pull the economy back to the long run equilibrium, the equilibrium real GDP should increase by $4 trillion (i.e., from $8 trillion to $12 trillion)=> change in equilibrium real GDP = $4 trillion_____________Calculation of change in government spending.Change in equilibrium real GDP = Change in government spending × Government spending multiplier=> $4 trillion = Change in government spending × 4=> Change in government spending = ($4 trillion / 4)=> Change in government spending = $1 trillionHence, government spending should increase by $1 trillion to pull back the economy to long-run equilibrium. The government can increase spending by $1 trillion.Answer: Option (A), i.e., 1

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In the above figures, supposed that there is no import or proportional tax. To pull the economy back to the long-run equilibrium, the government can increase spending by $ trillion. 1) 1 2) 2 3) 8 4) 4

In the above figures, supposed that there is no import or proportional tax. To pull the economy back to the long-run equilibrium, the government can increase spending by $ trillion. 1) 1 2) 2 3) 8 4) 4

ENGR.ECONOMIC ANALYSIS

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ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

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Question

In the above figures, supposed that there is no import or proportional tax. To pull the economy back to the long-run equilibrium, the government can increase spending by $ trillion.

Price level (GDP deflator, 2000 = 100)
160
150
140
130
120
0
4
LAS
AD
SAS
8
12
16 20 24
Real GDP (trillions of 2000 dollars)

Real GDP
(dollars)
10
20
30
40
50
60
Consumption
expenditure (dollars)
22.5
30
37.5
45
52.5
60

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