Suppose the MPC in the economy in Figure 10.2 equals 0.8 and the shift from AD₀ to AD₁ was caused by a decrease in investment of $30 billion.What will the total decrease in aggregate demand be (i.e.,AD₀ to AD₂)as a result of the initial $30 billion decrease? A)$37.5 billion. B)$130 billion. C)$150 billion. D)$240 billion.

Question

Quizplus · Accepted Answer

The total decrease in aggregate demand will be the sum of the initial decrease in investment ($30 billion) and the induced decrease in consumption resulting from the MPC of 0.8. The induced decrease in consumption will be equal to 0.8 times the initial decrease in investment, or 0.8 x $30 billion = $24 billion. Therefore, the total decrease in aggregate demand will be $30 billion + $24 billion = $54 billion. However, this will lead to a further decrease in output, which will induce a further decrease in consumption due to the MPC, and so on. To calculate the total decrease in aggregate demand, we need to use the formula for the multiplier:

Multiplier = 1 / (1 - MPC) = 1 / (1 - 0.8) = 5

This means that the total decrease in aggregate demand will be 5 times the initial decrease in investment, or 5 x $30 billion = $150 billion. Therefore, the correct answer is C) $150 billion.

Suppose the MPC in the Economy in Figure 10