Assume that the MPC is 0.8. Assume that the total crowding-out effect is $20 billion. How will an increase in government purchases of $9 billion shift the AD curve?
A) It will shift the AD curve right by $25 billion.
B) It will shift the AD curve left by $25 billion.
C) It will shift the AD curve right by $20 billion.
D) It will shift the AD curve left by $20 billion

Question

Quizplus · Accepted Answer

The initial increase in government purchases of $9 billion will have a multiplier effect, calculated as 1/(1-MPC) = 1/(1-0.8) = 5. This means the total increase in demand due to the government purchases would be $9 billion * 5 = $45 billion. However, with a crowding-out effect of $20 billion, the net increase in demand is $45 billion - $20 billion = $25 billion. Therefore, the AD curve will shift right by $25 billion.

Assume That the MPC Is 0