In the short-run Keynesian model where the marginal propensity to consume is 0.5, to offset a recessionary gap resulting from a $1 billion decrease in autonomous consumption, government purchases must be:
A) increased by $1 billion.
B) decreased by $1 billion.
C) increased by $0.5 billion.
D) increased by $2 billion.

Question

Quizplus · Accepted Answer

In the short-run Keynesian model, the multiplier effect states that a change in autonomous spending will have a multiplied effect on aggregate demand. In this case, the marginal propensity to consume is 0.5, which means that for every $1 increase in disposable income, consumers will spend $0.5. Therefore, to offset a $1 billion decrease in autonomous consumption, government purchases must be increased by $2 billion.

In the Short-Run Keynesian Model Where the Marginal Propensity to Consume