Question

In the Keynesian-cross model, if the MPC equals 0.75, then a $3 billion decrease in taxes increases planned expenditures by ______ and increases the equilibrium level of income by ______.

Answer 1

$1 billion ; $4 billion

Step-by-step explanation:

Data provided in the question:

MPC = 0.75

Decrease in taxes = $3 billion

Now,

Spending Multiplier, m = 1 ÷ (1 - MPC)

= 1 ÷ (1 - 0.75)

= 1 ÷ 0.25

= 4

Thus,

With the $1 billion increase in government spending, the planned expenditures increases by $1 billion

Increases the equilibrium level of income

= Increase in government spending × m

= $1 billion × 4

= $4 billion