If the government purchases multiplier equals 2,and real GDP is $14 trillion with potential real GDP $14.5 trillion,then government purchases would need to increase by ________ to restore the economy to potential real GDP.
A)$7.25 trillion
B)$1 trillion
C)$500 billion
D)$250 billion

Question

Quizplus · Accepted Answer

The formula for the government spending multiplier is:

Multiplier = 1 / (1 - Marginal Propensity to Consume)

Assuming a multiplier of 2, we can say that:

Multiplier = ∆Y / ∆G

where ∆Y is the change in real GDP and ∆G is the change in government spending.

Substituting the values given in the question, we get:

2 = (14.5 trillion - 14 trillion) / ∆G

Solving for ∆G, we get:

∆G = (14.5 trillion - 14 trillion) / 2

∆G = 0.25 trillion or $250 billion

Therefore, the government purchases would need to increase by $250 billion to restore the economy to its potential real GDP. The correct answer is D).

If the Government Purchases Multiplier Equals 2,and Real GDP Is