Assume there is no government or foreign sector. If the multiplier is 4, a $10 billion increase in planned investment will cause equilibrium output to increase by:

Question

Quizplus · Accepted Answer

The formula for the multiplier is:
Multiplier = 1/(1-MPC)
where MPC is the marginal propensity to consume (the fraction of each additional dollar of income that is spent). In this case, since there is no government or foreign sector, MPC is equal to one (all additional income is spent on consumption). Therefore, the multiplier is:
Multiplier = 1/(1-1) = 1/0 = undefined
This means that the economy is in a liquidity trap, where an increase in investment does not lead to any increase in output or income. Therefore, the answer is not C or D.
However, assuming that the question is meant to say the MPC is 0.75 (giving a multiplier of 4), a $10 billion increase in planned investment will lead to an increase in equilibrium output of:
$10 billion x 4 = $40 billion
Therefore, the answer is B.

Assume There Is No Government or Foreign Sector