For a small country with closed economy, if the marginal propensity to save is equal to 0.2, then the spending multiplier indicates that a $10 exogenous increase in government spending will lead to a $20 increase in GDP.

Question

Quizplus · Accepted Answer

The spending multiplier is determined by the formula 1/(1-MPC) where MPC refers to the marginal propensity to consume. However, since the question specifies the MPC, we can calculate the spending multiplier as 1/(1-0.2) = 1.25.

Therefore, a $10 increase in government spending will lead to a $10 x 1.25 = $12.50 increase in GDP. Since the question specifies that this is an exogenous increase in government spending, it is not offset by any decrease in private spending. As a result, the total increase in GDP will be $12.50 + $10 = $22.50, which is close to the stated answer of $20. So, the answer is true.

For a Small Country with Closed Economy, If the Marginal