If the MPC is .8 and the government increases both spending and lump-sum taxes by $100 million, then we would expect:
a) an increase in total income of $500 million
b) a reduction in equilibrium income of $80 million
c)an increase in equilibrium income of $100 million
d)no change in equilibrium income
total income multiplier= 1/(1-.8)=5
a) seems reasonalbe
To determine the impact on equilibrium income, we need to consider the multiplier effect. The multiplier effect states that a change in autonomous spending, such as government spending or taxes, leads to a larger change in equilibrium income.
The multiplier (K) is calculated as 1 / (1 - MPC). In this case, the MPC is 0.8, so the multiplier is 1 / (1 - 0.8) = 1 / 0.2 = 5.
The change in equilibrium income (ΔY) is calculated by multiplying the change in autonomous spending (ΔA) by the multiplier (K). In this case, both government spending and lump-sum taxes are increased by $100 million, so ΔA = $100 million.
ΔY = ΔA * K = $100 million * 5 = $500 million
Therefore, the correct answer is: a) an increase in total income of $500 million.
To determine the expected impact on equilibrium income, we need to consider the concept of the multiplier effect. The multiplier effect reflects the idea that changes in spending or income have a larger impact on overall output and income in an economy.
The multiplier is calculated as 1 / (1 - MPC), where MPC represents the marginal propensity to consume. In this case, the MPC is given as 0.8.
To find the multiplier, we can use the formula: 1 / (1 - 0.8) = 1 / 0.2 = 5.
Given that the government increases both spending and lump-sum taxes by $100 million, we can apply the multiplier to determine the expected impact on equilibrium income:
Change in equilibrium income = Multiplier × Change in spending
Change in equilibrium income = 5 × $100 million = $500 million
Therefore, the correct answer is:
a) an increase in total income of $500 million