Question 1

If 20 percent of additional income is not spent and business investment spending decreases by $10 billion at the same time that government purchases increase by $20 billion, total output and income will:

Accepted Answer

The increase in total output and income can be calculated using the multiplier effect. The marginal propensity to consume (MPC) is 0.8 (since 20% is not spent, 100% - 20% = 80% is spent). The multiplier is 1/(1-MPC) = 1/(1-0.8) = 5. The net increase in spending is the $20 billion increase in government purchases minus the $10 billion decrease in business investment, which equals $10 billion. Applying the multiplier, the total increase in output and income is $10 billion * 5 = $50 billion.

Question 2

If nonincome-determined spending increases by $40 billion, and 80 percent of additional income received is spent, the level of economic activity will increase by:

Accepted Answer

The increase in economic activity can be calculated using the multiplier effect formula: 1/(1-MPC) * Change in spending, where MPC (marginal propensity to consume) is 0.8 in this case. So, the multiplier is 1/(1-0.8) = 5. Therefore, the total increase in economic activity is 5 * $40 billion = $200 billion.

Question 3

If business investment spending increased by $40 billion, and 75 percent of additional income received was spent, the level of economic activity would increase by:

Accepted Answer

This scenario can be analyzed using the concept of the multiplier effect in economics. The multiplier effect shows how initial increases in spending lead to further increases in income and consumption, thus amplifying the initial spending. The formula for the multiplier is 1/(1-MPC), where MPC is the marginal propensity to consume, or the fraction of additional income that households spend on consumption. In this case, MPC is 75% or 0.75. Therefore, the multiplier is 1/(1-0.75) = 4. The initial increase in spending is $40 billion, so the total increase in economic activity is 4 * $40 billion = $160 billion.

Question 4

If government purchases increased by $60 billion while investment spending decreased by $45 billion, by how much would the level of economic activity change if 80 percent of additional income received was spent?

Accepted Answer

The change in economic activity is calculated using the multiplier effect. The net change in spending is $15 billion ($60 billion increase - $45 billion decrease). The multiplier is 1/(1-MPC), where MPC is 0.8, so the multiplier is 5. The change in economic activity is $15 billion * 5 = $75 billion increase.

Question 5

Assume that total output has increased by $50 billion and 25 percent of additional income is not spent. What was the initial change in nonincome-determined spending that led to that change in output?

Accepted Answer

The initial change in nonincome-determined spending is found using the multiplier effect formula. The multiplier is 1/(1-MPC), where MPC (marginal propensity to consume) is 1 - MPS (marginal propensity to save). Given that 25% of additional income is not spent (MPS = 0.25), MPC = 0.75. Thus, the multiplier is 1/(1-0.75) = 4. To find the initial change in spending that led to a $50 billion increase in output, divide the total change in output by the multiplier: $50 billion / 4 = $12.5 billion.

Question 6

Assume total output has increased by $80 billion and nonincome-determined spending has increased by $10 billion, what is the percentage of income that is not spent?

Accepted Answer

The percentage of income that is not spent is essentially the marginal propensity to save (MPS). Given that the total output (income) increased by $80 billion and the autonomous (nonincome-determined) spending increased by $10 billion, the multiplier effect can be calculated as the change in total output divided by the change in autonomous spending, which is $80 billion / $10 billion = 8. The multiplier (k) is also equal to 1/(1-MPC) or 1/MPS, where MPC is the marginal propensity to consume and MPS is the marginal propensity to save. Solving for MPS in the equation 1/MPS = 8 gives MPS = 1/8 = 0.125 or 12.5%.

Question 7

Assume total output has increased by $80 billion and nonincome-determined spending has increased by $10 billion, what is the percentage of income that is spent?

Accepted Answer

The marginal propensity to consume (MPC) can be calculated using the formula MPC = Change in Consumption / Change in Income. Here, the increase in total output (income) is $80 billion, and the increase in spending (consumption) is $10 billion. The MPC is thus $10 billion / $80 billion = 0.125. Since the question asks for the percentage of income that is spent, we need to find the marginal propensity to spend, which is 1 - MPC = 1 - 0.125 = 0.875 or 87.5%.

Question 8

If the multiplier increases, injections into the spending stream should be:

Accepted Answer

When the multiplier increases, it means that any initial injection into the economy will have a larger impact on the overall level of economic activity. This is because the multiplier effect describes how an initial increase in spending leads to further increases in income and consumption, amplifying the initial stimulus.

Question 9

Which of the following statements about the multiplier effect is FALSE?

Accepted Answer

The multiplier effect works for both increases and decreases in spending, not just for increases. When spending increases, it leads to a chain reaction of increased incomes and further spending, and similarly, a decrease in spending can lead to a chain reaction of decreased incomes and further reductions in spending.

Question 10

Application 5.3, "Ripples through the Economy,"illustrates in part how:

Accepted Answer

The multiplier effect explains how unemployment in one industry can lead to job losses in other industries due to decreased spending by the unemployed workers, thereby causing a ripple effect through the economy.

Question 11

If total spending increases and the economy is at full employment:

Accepted Answer

When the economy is at full employment, additional increases in total spending typically lead to inflation because the capacity to produce more goods and services is limited, and any increase in demand tends to push prices up instead of increasing output.

Question 12

Increases in the level of total spending in the economy:

Accepted Answer

Increases in the level of total spending in the economy can lead to demand-pull inflation under certain circumstances, especially when demand outpaces the economy's ability to produce goods and services, leading to upward pressure on prices.

Question 13

If the economy were at or near full employment and leakages from the spending stream were less than injections, you would expect the general level of prices to:

Accepted Answer

When leakages are less than injections in an economy at or near full employment, it indicates that demand is outstripping supply, leading to upward pressure on prices, hence an increase in the general level of prices.

Question 14

Expectations of an economic downturn will most likely produce a recession if businesses:

Accepted Answer

Expectations of an economic downturn can lead to a recession if businesses reduce investment spending due to anticipated lower future profits, and households increase their saving in anticipation of tougher economic times ahead. This combination reduces overall demand in the economy, potentially triggering or exacerbating a recession.

Question 15

The expectation of:

Accepted Answer

Expectations of an upcoming recession can lead to increased savings as individuals and businesses become more cautious with their spending. This behavior, known as the saving leakage, reduces the overall level of economic activity because less money is being circulated through purchases and investments.

Question 16

Expectations about future price levels and future output and employment conditions:

Accepted Answer

Expectations about future economic conditions, such as inflation or recession, can influence people's behavior in ways that might actually bring about those conditions. For example, if people expect inflation, they might start spending more quickly, which can contribute to inflation. Similarly, if they expect a recession, they might cut back on spending, which can help trigger or deepen a recession.

Question 17

The economic policy that focuses on changing the size of the spending stream by changing government taxes and/or expenditures is:

Accepted Answer

Fiscal policy focuses on changing the size of the spending stream by changing government taxes and/or expenditures.

Question 18

Monetary policy is designed to affect the level of economic activity by:

Accepted Answer

Monetary policy involves managing the supply of money and interest rates by central banks to influence economic activity. It affects how much money flows through the economy's financial institutions, impacting investments (injections) and savings (leakages), thereby influencing overall economic activity.

Question 19

Fiscal policy and monetary policy influence the level of spending in the economy by:

Accepted Answer

Fiscal policy (government spending and taxation) and monetary policy (control of the money supply and interest rates) influence the economy by affecting how much money is circulating and how easily it flows. They do this by impacting the levels of injections (e.g., government spending, investments) and leakages (e.g., taxes, savings) in the economy's circular flow of income and expenditure, rather than through direct regulation of foreign trade or mandating specific behaviors of households and businesses.

Question 20

Fiscal policy and monetary policy are:

Accepted Answer

Fiscal policy (government spending and taxation) and monetary policy (central bank actions affecting interest rates and the money supply) are both aimed at influencing the level of economic activity by affecting total spending in the economy. They are tools to manage economic growth, control inflation, and influence employment levels, rather than being focused primarily on trade balances or being universally agreed upon in terms of effectiveness.

Quiz 5: Foundations of the Macroeconomy