Given full-employment output = $2,800, equilibrium real GDP = $2,500, and MPS = 0.25, which of the following changes would most likely bring the economy to a full-employment level of real GDP?
A) $300 decrease in taxes.
B) $75 increase in government spending.
C) $75 decrease in taxes.
D) $300 increase in government spending.
E) $75 decrease in government spending.

Question

Quizplus · Accepted Answer

An increase in government spending has a direct impact on GDP. With an MPS of 0.25, the multiplier is 4 (1/MPS). A $75 increase in government spending would increase GDP by $300 (75 * 4), bringing equilibrium GDP to the full-employment level of $2,800.

Given Full-Employment Output = $2,800, Equilibrium Real GDP = $2,500