ECONOMICS
AGGREGATE DEMAND
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Question
[CLICK ON ANY CHOICE TO KNOW THE RIGHT ANSWER]
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Aggregate demand will decrease by $900 billion.
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Aggregate demand will decrease by $500 billion.
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Aggregate demand will decrease by $400 billion.
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Aggregate demand will decrease by $100 billion.
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Aggregate demand will not change.
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Detailed explanation-1: -MPC is the money people spend when they get an extra dollar of income. When MPC = 0.8, for example, when people gets an extra dollar of income, they spend 80 cents of it. So the Keynesian multiplier works as follow, assuming for simplicity, MPC = 0.8.
Detailed explanation-2: -If the marginal propensity to consume is 0.8, the marginal propensity to save is 8. As interest rates rise, spending decreases. The marginal propensity to consume must always be larger than the marginal propensity to save. If the marginal propensity to consume is 0.5, the marginal propensity to save is 0.5.
Detailed explanation-3: -HINT: Since this change is a result of something other than a change in the price level, it represents an autonomous change. Since the marginal propensity to consume is 0.8, the multiplier is 5 = 1/(1-. 8) = 1/0.2.
Detailed explanation-4: -The total change in national income is the initial increase in government, or “autonomous, ” spending times the fiscal multiplier. Since the marginal propensity to consume is 0.75, the fiscal multiplier would be four.