Exhibit 15-5 Aggregate demand and supply model Suppose the economy in Exhibit 15-5 is in equilibrium at point E₁ and the marginal propensity to consume (MPC) is 0.75. Following Keynesian economics, the federal government can move the economy to point E₂ and reduce inflation by:

Question

Quizplus · Accepted Answer

According to Keynesian economics, to reduce inflation and move the economy to point E₂, the federal government should decrease government spending. The exact amount of the decrease needed can be calculated using the following formula: ΔY = -ΔG × MPC / (1 - MPC) Where: ΔY = the change in output (real GDP) ΔG = the change in government spending MPC = the marginal propensity to consume Substituting the values in the equation, we get: 4,500 = -ΔG × 0.75 / (1 - 0.75) Solving for ΔG, we get: ΔG = -($50 billion) Therefore, the federal government should decrease government spending by $50 billion to move the economy to point E₂ and reduce inflation. Choice D is the only option that matches this requirement.

Exhibit 15-5 Aggregate Demand and Supply Model Suppose the Economy