If a lump-sum income tax of $25 billion is levied and the MPS is .20,the:
A) saving schedule will shift upward by $5 billion.
B) consumption schedule will shift downward by $25 billion.
C) consumption schedule will shift downward by $20 billion.
D) consumption schedule will shift upward by $25 billion.

Question

Quizplus · Accepted Answer

The MPC (marginal propensity to consume) + MPS (marginal propensity to save) = 1. If the MPS is 0.20, then the MPC is 0.80. This means that for every $1 decrease in disposable income, consumption will decrease by $0.80. Therefore, if a lump-sum income tax of $25 billion is levied, disposable income will decrease by $25 billion, and consumption will decrease by $20 billion (0.80 x $25 billion). Thus, the consumption schedule will shift downward by $20 billion, which is represented by choice C. The saving schedule will shift upward by the same amount, but this is not one of the choices.

If a Lump-Sum Income Tax of $25 Billion Is Levied