Equilibrium real GDP is $500 billion, government expenditures are $80 billion, the MPC = 0.9, and there are no income taxes or imports. Suppose that government expenditures increase to $100 billion. If the price level is constant, after the increase in government expenditures, equilibrium real GDP will be

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Quizplus · Accepted Answer

The change in government expenditures is $20 billion. With an MPC of 0.9, the spending multiplier is 1/(1-MPC) = 10. Therefore, the increase in GDP is 10 * $20 billion = $200 billion. Adding this to the initial GDP of $500 billion results in a new equilibrium GDP of $700 billion.

Equilibrium Real GDP Is $500 Billion, Government Expenditures Are $80