We again assume a simple closed economy with GDP of 100 and: c0 (autonomous consumption) = 20 c1 (marginal propensity to consume) = 0.6 I (investment) = 20. a) Now assume that c0 falls by 5 (i.e. 5% of GDP), i.e. for any given level of output, consumption will fall by 5. Show the implied fall in the AD function in your diagram and show that output will fall by more than 5. b) Show that the multiplier is equal to 2.5, and hence that, in the new equilibrium, output will have fallen by 12.5 (i.e. by 12.5%) c) How big would the impact be if, say, c1 = 0.4 or c1 = 0.8? Explain the difference.
We again assume a simple closed economy with GDP of 100 and: c0 (autonomous consumption) = 20 c1 (marginal propensity to consume) = 0.6 I (investment) = 20. a) Now assume that c0 falls by 5 (i.e. 5% of GDP), i.e. for any given level of output, consumption will fall by 5. Show the implied fall in the AD function in your diagram and show that output will fall by more than 5. b) Show that the multiplier is equal to 2.5, and hence that, in the new equilibrium, output will have fallen by 12.5 (i.e. by 12.5%) c) How big would the impact be if, say, c1 = 0.4 or c1 = 0.8? Explain the difference.
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
Related questions
Question
We again assume a
simple closed economy with
c0
(autonomous consumption) = 20
c1 (marginal propensity to consume) = 0.6
I (investment) = 20.
a) Now assume that c0
falls by 5 (i.e. 5% of GDP), i.e. for any given level of output,
consumption will fall by 5. Show the implied fall in the AD function in your
diagram and show that output will fall by more than 5.
b) Show that the multiplier is equal to 2.5, and hence that, in the new equilibrium,
output will have fallen by 12.5 (i.e. by 12.5%)
c) How big would the impact be if, say, c1 = 0.4 or c1 = 0.8? Explain the difference.
Expert Solution
This question has been solved!
Explore an expertly crafted, step-by-step solution for a thorough understanding of key concepts.
Step by step
Solved in 5 steps with 9 images
Knowledge Booster
Learn more about
Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, economics and related others by exploring similar questions and additional content below.Recommended textbooks for you
Principles of Economics (12th Edition)
Economics
ISBN:
9780134078779
Author:
Karl E. Case, Ray C. Fair, Sharon E. Oster
Publisher:
PEARSON
Engineering Economy (17th Edition)
Economics
ISBN:
9780134870069
Author:
William G. Sullivan, Elin M. Wicks, C. Patrick Koelling
Publisher:
PEARSON
Principles of Economics (12th Edition)
Economics
ISBN:
9780134078779
Author:
Karl E. Case, Ray C. Fair, Sharon E. Oster
Publisher:
PEARSON
Engineering Economy (17th Edition)
Economics
ISBN:
9780134870069
Author:
William G. Sullivan, Elin M. Wicks, C. Patrick Koelling
Publisher:
PEARSON
Principles of Economics (MindTap Course List)
Economics
ISBN:
9781305585126
Author:
N. Gregory Mankiw
Publisher:
Cengage Learning
Managerial Economics: A Problem Solving Approach
Economics
ISBN:
9781337106665
Author:
Luke M. Froeb, Brian T. McCann, Michael R. Ward, Mike Shor
Publisher:
Cengage Learning
Managerial Economics & Business Strategy (Mcgraw-…
Economics
ISBN:
9781259290619
Author:
Michael Baye, Jeff Prince
Publisher:
McGraw-Hill Education