If short-run equilibrium output equals 10,000, the income-expenditure multiplier equals 10, the mpc equals 0.9, and potential output (Y*)equals 9,000, then taxes must be increased by approximately ________ to eliminate any output gap.
A)90
B)100
C)111
D)1,000

Question

Quizplus · Accepted Answer

There is an expansionary gap of 1,000, the amount by which equilibrium output exceeds Y*. An mpc of 0.9 means that households will reduce autonomous spending by only 90 percent of any increase in taxes. To close the output gap, autonomous expenditure must decrease by 1,000 / 10 = 100, so the increase in taxes that is needed is 100 / 0.90 ≈ 111.

If Short-Run Equilibrium Output Equals 10,000, the Income-Expenditure Multiplier Equals