Question

Suppose that a certain country has an MPC of 0.8 and a real GDP of $400 billion. If its investment spending decreases by $5 billion, what will be its new level of real GDP

Answer 1

If the investment spending in a country decreases by $5 billion, the new level of real GDP will be $375 billion.

Step-by-step explanation:

The new level of real GDP can be determined by using the multiplier effect. The multiplier effect measures the change in real GDP resulting from a change in spending. In this case, the investment spending decreases by $5 billion. The formula to calculate the new level of real GDP is:

New level of real GDP = Real GDP + (Change in investment spending * Multiplier)

Given that the MPC (Marginal Propensity to Consume) is 0.8, we can calculate the multiplier as:

Multiplier = 1 / (1 - MPC) = 1 / (1 - 0.8) = 5

Substituting the values into the formula:

New level of real GDP = $400 billion + (-$5 billion * 5) = $375 billion

Answer 2

Answer: $375 billion.

Step-by-step explanation:

Using the MPC, one can calculate a multiplier that shows how much GDP changes when there is a change in investment.

Multiplier = 1 / ( 1 - MPC)

= 1 / (1 - 0.8)

= 1 / (0.2)

= 5

Change in GDP = change in investment spending * multiplier

= -5 billion * 5

= -$25 billion

New level of GDP = 400 - 25

= $375 billion.