Suppose the marginal propensity to consume in an economy is equal to 0.6. The government increases both taxes and spending by 100. What is the net effect on aggregate demand?

Question

Quizplus · Accepted Answer

The balanced budget multiplier is equal to 1, so an increase in government spending by 100 increases aggregate demand by 100. However, the increase in taxes reduces consumption by 60 (0.6 * 100), leading to a net increase in aggregate demand of 40.

Suppose the Marginal Propensity to Consume in an Economy Is