If the marginal propensity to consume is 0.8, full-employment output is $14 trillion, and current output is $13.5 trillion, then investment spending must _____ to reach full-employment output.
A) increase by $0.5 trillion
B) decrease by $0.5 trillion
C) increase by $0.1 trillion
D) increase by $0.4 trillion

Question

Quizplus · Accepted Answer

The spending multiplier is 1/(1-MPC) = 1/(1-0.8) = 5. To close the output gap of $0.5 trillion ($14 trillion - $13.5 trillion), investment must increase by $0.5 trillion / 5 = $0.1 trillion.

If the Marginal Propensity to Consume Is 0