Suppose the economy is already producing at its potential.What is the spending multiplier?
A) 1/(1 - MPC) in the long run
B) less than 1/(1 - MPC) in the long run
C) more than 1/(1 - MPC) in the long run
D) zero in the long run

Question

Suppose the economy is already producing at its potential.What is the spending multiplier?  
A) 1/(1 - MPC) in the long run 
B) less than 1/(1 - MPC) in the long run 
C) more than 1/(1 - MPC) in the long run 
D) zero in the long run

Quizplus · Accepted Answer

If the economy is already producing at its potential, then there is no spare capacity to increase production further through an increase in spending. Therefore, the spending multiplier is zero in the long run. This means that any increase in spending will only cause prices to go up, rather than increasing the output.

Suppose the Economy Is Already Producing at Its Potential