Question

Consider a hypothetical economy where there are no taxes and no international trade. households spend $0.80 of each additional dollar they earn and save the remaining $0.20. if there are no taxes and no international trade, the oversimplified multiplier for this economy is .

Answer 1

The question is about calculating the simple spending multiplier in a no-tax, no-trade economy. With an MPC of 0.80, the multiplier would be 5, indicating that $5 of economic activity is generated for every additional dollar earned.

Step-by-step explanation:

The student's question relates to the concept of the multiplier effect in economics, specifically how household spending behavior affects overall economic activity. In a hypothetical economy where households spend 80% of their additional income and save the remaining 20%, the multiplier would be calculated using the marginal propensity to consume (MPC) or the fraction of extra income that households consume rather than save. Since there are no taxes or international trade in this scenario, the simple spending multiplier can be calculated as the reciprocal of the marginal propensity to save (MPS), which is the complement of the MPC (1 - MPC).

In this case, with an MPC of 0.80, the MPS would be 1 - MPC, which equals 0.20. Therefore, the multiplier would be 1 divided by the MPS, which equals 1 / 0.20, or 5. This means that for every additional dollar earned, $5 of economic activity is generated.

Answer 2

The formula for the multiplier is 1 / (1 - MPC), whereby MPC represents the marginal propensity to consume. Applying the formula to our case, we get: M (multiplier) = 1/(1-0.8) = 1/0.2 = 5. The multiplier in this economy is therefore 5.