Suppose that the slope of the AE curve is 0.80. Then an increase of investment of $10 billion leads to an increase in equilibrium real GDP equal to
A) $12.5 billion.
B) $10.0 billion.
C) $8.0 billion.
D) $50.0 billion.

Question

Quizplus · Accepted Answer

The multiplier effect is calculated as 1/(1-MPC), where MPC is the marginal propensity to consume. With a slope of 0.80, the MPC is 0.80. The multiplier is 1/(1-0.80) = 5. Therefore, an increase in investment of $10 billion leads to an increase in equilibrium real GDP of $10 billion * 5 = $50 billion.

Suppose That the Slope of the AE Curve Is 0