Let Y = real GDP and Y_d = disposable income. Suppose initially, Y = Y_d and the marginal propensity to consume (MPC) is 0.9. All components of aggregate expenditures except consumption are autonomous. Now suppose the government imposes an income tax rate of 20% on real GDP. What is the marginal propensity to consume following the imposition of an income tax? A) 0.7 B) 0.72 C) 0.18 D) 1.1

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Quizplus · Accepted Answer

The marginal propensity to consume (MPC) is the change in consumption divided by the change in disposable income. When the government imposes an income tax, disposable income decreases by the amount of the tax. This means that for every dollar of real GDP, consumption will decrease by 0.20 * 0.9 = 0.18. Therefore, the MPC following the imposition of an income tax is 0.9 - 0.18 = 0.72.

Let Y = Real GDP and Yd = Disposable Income

Let Y = Real GDP and Y_d = Disposable Income