Consider a simple aggregate expenditure model where all components of aggregate expenditure are autonomous except consumption. The marginal propensity to consume is 0.8. Suppose the equilibrium level of real GDP at the prevailing price is $500 billion below potential real GDP. All else constant, by how much should autonomous aggregate expenditures be increased to reach potential output?
A) $625 billion
B) $500 billion
C) $400 billion
D) $100 billion

Question

Quizplus · Accepted Answer

The spending multiplier is 1/(1-MPC) = 1/(1-0.8) = 5. To close a $500 billion gap, autonomous expenditures should increase by $500 billion / 5 = $100 billion.

Consider a Simple Aggregate Expenditure Model Where All Components of Aggregate