In an economy, the government wants to increase aggregate demand by $50 billion at each price level to increase real GDP and reduce unemployment.If the MPS is .4, then it could increase government spending by:
A)$10 billion.
B)$20 billion.
C)$31.25 billion.
D)$40.50 billion.

Question

Quizplus · Accepted Answer

To calculate the change in government spending, we need to use the following formula:

∆Y = (1/(1-MPC)) x ∆G

∆Y = $50 billion (given)
MPS = 0.4
MPC = 1 - MPS = 0.6

Substituting these values in the formula, we get:

$50 billion = (1/(1-0.6)) x ∆G
$50 billion = (1/0.4) x ∆G
$50 billion = 2.5 x ∆G
∆G = $20 billion

Therefore, the government could increase its spending by $20 billion to achieve its goal. The correct choice is B.

In an Economy, the Government Wants to Increase Aggregate Demand