If the government decreases spending and taxes by 1,000 units and the marginal propensity to consume is .9,then
A)more information is needed.
B)output will decrease by 900.
C)output will decrease by 10,000.
D)output will increase by 10,000.

Question

Quizplus · Accepted Answer

The decrease in government spending and taxes by 1,000 units, with a marginal propensity to consume (MPC) of .9, leads to a multiplier effect. The multiplier formula is 1/(1-MPC), which in this case is 1/(1-0.9) = 10. A decrease in spending of 1,000 units thus results in a total decrease in output of 10,000 units (1,000 * 10).

If the Government Decreases Spending and Taxes by 1,000 Units