Assuming that MPC is .75, equal increases in government spending and tax collections by $10 billion will:
A) Leave the equilibrium GDP unchanged
B) Increase the equilibrium GDP by $10 billion
C) Increase the equilibrium GDP by $2.5 billion
D) Reduce the equilibrium GDP by $10 billion

Question

Quizplus · Accepted Answer

MPC is 0.75, which means that for every $1 increase in disposable income, consumption will increase by $0.75. Therefore, an increase in government spending and tax collections by $10 billion will increase disposable income by $7.5 billion (MPC * $10 billion). This will lead to an increase in consumption by $5.625 billion ($7.5 billion * MPC). The increase in consumption will lead to an increase in GDP by $10 billion (since GDP = C + I + G + NX). Therefore, the equilibrium GDP will increase by $10 billion.

Assuming That MPC Is