Question

two identical countries, country a and country b, can each be described by a keynesian-cross model. the mpc is .9 in each country. country a decides to increase spending by $2 billion, while country b decides to cut taxes by $2 billion. in which country will the new equilibrium level of income be greater?

Answer 1

In a Keynesian-cross model, the new equilibrium level of income will be greater in Country A compared to Country B when Country A increases spending by $2 billion and Country B cuts taxes by $2 billion.

Step-by-step explanation:

In a Keynesian-cross model, the equilibrium level of income is determined by the intersection of the aggregate expenditure line and the 45-degree line.

When Country A increases spending by $2 billion, it will have a multiplier effect on the economy. The multiplier effect occurs because the increase in spending will lead to an increase in income, which will in turn increase consumption and aggregate expenditure. Therefore, the new equilibrium level of income in Country A will be greater than before.

On the other hand, when Country B cuts taxes by $2 billion, this will lead to an increase in disposable income for households, which will also increase consumption and aggregate expenditure. However, the impact of the tax cut on the equilibrium level of income will be smaller than the impact of the spending increase in Country A because the MPC is lower in Country B. Therefore, the new equilibrium level of income in Country A will be greater than in Country B.