Chapter 11, Problem 2TY

To determine

To describe:

The equilibrium of the economics graphically.

Marginal propensity for the consumption and the multiplier.

Effect on equilibrium GDP when the price level remain unchanged and government purchases reduced by 60$.

Answer to Problem 2TY

When the government expenditure is reduced by 60$ it leads to the change in the equilibrium level by 120$. Thus, the multiplier effect of govt. purchases on GDP will be 2.

Explanation of Solution

The GDP equilibrium is the equilibrium output of such an economy is that level of output at which the total amount of planned spending is just equal to the amount produced, or GDP. That is, equilibrium $GDP=C+Ig$ . Consumption expenditures rise with GDP while planned gross investment expenditures are independent of the level of GDP.

The Economic equilibrium is a condition or state wherein economic powers are adjusted. Economic equilibrium is the mix of economic variables (typically cost and amount) toward which ordinary economic procedures, for example, market interest, drive the economy.

The given below table represents the components of consumption expenditure (Table I)

GDP	Taxes	DI	C	I	G	(X-IM)
1360	320	1040	810	200	500	30
1480	360	1120	870	200	500	30
1600	400	1200	930	200	500	30
1720	440	1280	990	200	500	30
1840	480	1360	1050	200	500	30

Now employing the information in the above table the consumption expenditure will be composed where consumption expenditure will be given as the sum of C, I, G and $\left(X-IM\right)$

GDP	Taxes	DI	C	I	G	(X-IM)	Consumption expenditure
1360	320	1040	810	200	500	30	1540
1480	360	1120	870	200	500	30	1600
1600	400	1200	930	200	500	30	1660
1720	440	1280	990	200	500	30	1720
1840	480	1360	1050	200	500	30	1780

In table 2, the GDP of the economy is equal to that Consumption expenditure when both are 1720$, thus the equilibrium level of GDP is 1720$.

The tax rate can be calculated employing the formula :

  $Taxrate=taxrate/income\times 100$ ........(1)

The tax rate can be represented in the table (2) as,

GDP/Income	Tax	Tax rate
1360	320	23.53
1480	360	24.32
1600	400	25
1720	440	25.58
1840	480	26.09
		24.90(124.52/5)

Thus the average tax rate is 24.90.

The reduction in govt purchase by 60$ will reduce the consumption expenditure. Thus, the new equilibrium level of GDP can be obtained through updating the figure with the new govt. purchases.

GDP	C	I	G	(X-IM)	Consumption expenditure
1360	810	200	440	30	1480
1480	870	200	440	30	1540
1600	930	200	440	30	1600
1720	990	200	440	30	1660
1840	1050	200	440	30	1720

Since the consumption expenditure is equal to that of GDP when both values are at 1600$, the equilibrium level of GDP is 1600. It shows that the reduction in government purchases by 60$ will lead to reduction of equilibrium level by 120.

  

Graphical representation of equilibrium level of GDP : The graph shows the govt expenditure shifted the consumption expenditure curve downward from $\left(C+I+G_O+NE\right)$ to $\left(C+I+G_1+NE\right).$ This will result in the new level of equilibrium of GDP at point E2, where the combination of GDP and consumption expenditure intersects at 45^OComparison In both the answers obtained from the data when the government purchases reduced a factor of 60$, the multiplier effect will be reduced and make it weaker.

Economics Concept Introduction

Introduction:

Economic equilibrium is a condition or state wherein economic powers are adjusted. Economic equilibrium is the mix of economic variables (typically cost and amount) toward which ordinary economic procedures, for example, market interest, drive the economy.