Consider a hypothetical economy where there are no taxes and no foreign trade, and households spend $0.90 of each additional dollar they earn and ; the marginal propensity to save (MPS) for this save the remaining $0.10. The marginal propensity to consume (MPC) for this economy is ; and the multiplier for this economy is economy is Suppose investment spending in this economy decreases by $150 billion. The decrease in investment will lead to a decrease in income, generating a decrease in consumption that decreases income yet again, and so on. Fill in the following table to show the impact of the change in investment spending on the first two rounds of consumption spending and, eventually, on total output and income.
Consider a hypothetical economy where there are no taxes and no foreign trade, and households spend $0.90 of each additional dollar they earn and ; the marginal propensity to save (MPS) for this save the remaining $0.10. The marginal propensity to consume (MPC) for this economy is ; and the multiplier for this economy is economy is Suppose investment spending in this economy decreases by $150 billion. The decrease in investment will lead to a decrease in income, generating a decrease in consumption that decreases income yet again, and so on. Fill in the following table to show the impact of the change in investment spending on the first two rounds of consumption spending and, eventually, on total output and income.
Chapter18: The Keynesian Model
Section: Chapter Questions
Problem 9SQP
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Transcribed Image Text:Consider a hypothetical economy where there are no taxes and no foreign trade, and households spend $0.90 of each additional dollar they earn and
; the marginal propensity to save (MPS) for this
save the remaining $0.10. The marginal propensity to consume (MPC) for this economy is
economy is
; and the multiplier for this economy is
Suppose investment spending in this economy decreases by $150 billion. The decrease in investment will lead to a decrease in income, generating a
decrease in consumption that decreases income yet again, and so on.
Fill in the following table to show the impact of the change in investment spending on the first two rounds of consumption spending and, eventually,
on total output and income.
Hint: Be sure to enter a negative sign in front of the number if there is a decrease in consumption.
Change in Investment Spending = -$150 billion
First Change in Consumption = $
Second Change in Consumption
$
Total Change in Output = $
billion
billion
billion
In reality, households will not simply split an increase in income between saving and consumption of domestic output. A fraction of the additional
income will go toward the payment of taxes, and a fraction will go to purchases of foreign goods (imports). Accounting for the effects of taxes and
imports will reduce or the multiplier effect you found earlier.
increase
Now suppose that households in this economy allocate each additional dollar of income in the following way. Households continue to save $0.10 of
each additional dollar income; however, they now pay $0.10 in taxes on each additional dollar of income, and they now spend $0.20 of each additional
dollar on imported goods. The remaining fraction of each additional dollar goes toward consumption of domestically produced output.
In this case, the fraction of an additional dollar of income that is not spent on domestic output is equal to
imports into consideration, the multiplier for this economy is
Taking the impact of taxes and
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