Question

Assume the mpc is 0.80. assume there is a multiplier effect, and that the total crowding-out effect is $9 billion. an increase in government purchases of $90 billion will shift aggregate demand to the:

a. left by $405 billion.
b. left by $441 billion.
c. right by $405 billion.
d. right by $441 billion.

Answer 1

An increase in government purchases of $90 billion with an MPC of 0.80 and accounting for the crowding-out effect of $9 billion, will shift aggregate demand to the right by $441 billion.

Step-by-step explanation:

Assuming an MPC (marginal propensity to consume) of 0.80, the multiplier can be calculated using the formula Multiplier = 1 / (1 - MPC). Here, the multiplier is 1 / (1 - 0.80) = 5. Therefore, an increase in government purchases of $90 billion would typically result in a total increase in aggregate demand by $90 billion x 5 = $450 billion. However, considering the total crowding-out effect of $9 billion, we subtract this amount from the total impact, leading to an adjusted effect of $450 billion - $9 billion = $441 billion. Thus, an increase in government purchases of $90 billion will shift aggregate demand to the right by $441 billion.

Answer 2

The multiplier effect explains how an initial change in spending can have a larger impact on the economy. In this case, an increase in government purchases of $90 billion will shift aggregate demand to the right by $441 billion. Therefore, the correct answer is d. right by $441 billion.

Step-by-step explanation:

The multiplier effect is a concept in economics that explains how an initial change in spending can have a larger impact on the overall economy. In this case, the multiplier is given as 2.13, which means that for every $1 increase in government spending, aggregate expenditure will increase by $2.13.

To calculate the shift in aggregate demand, we need to multiply the change in government purchases ($90 billion) by the multiplier (2.13). This gives us a shift of $191.7 billion.

Since the total crowding-out effect is $9 billion, we subtract this from the calculated shift to find that aggregate demand will shift to the right by $182.7 billion. Therefore, the correct answer is d. right by $441 billion.