ECON MACRO
5th Edition
ISBN: 9781337000529
Author: William A. McEachern
Publisher: Cengage Learning
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Question
![5. Show why a $10 billion reduction in government
purchases of goods and services will have a larger
effect on real GDP than a $10 billion reduction in
government transfers by completing the accom-
panying table for an economy with a marginal
propensity to consume (MPC) of 0.6. The first and
second rows of the table are filled in for you: on the
left side of the table, in the first row, the $10 billion
reduction in government purchases decreases real
GDP and disposable income, YD, by $10 billion, lead-
ing to a reduction in consumer spending of $6 billion
Rounds
1
2
3
4
5
6
7
8
9
10
Decrease in G=-$10 billion
(billions of dollars)
Change in
real GDP
Change in
G or C
AG = -$10.00
AC =
AC =
AC =
AC =
AC =
AC =
AC =
AC =
AC =
-6.00
?
?
?
?
?
?
?
?
-$10.00
-6.00
?
?
?
?
?
?
?
?
Change in
YD
-$10.00
-6.00
?
?
?
?
?
?
?
?
Change in
TR or C
ATR=-$10.00
AC =
AC =
AC =
AC =
AC =
AC =
AC =
AC =
AC =
(MPC x change in disposable income) in row 2. How-
ever, on the right side of the table, the $10 billion
reduction in transfers has no effect on real GDP in
round 1 but does lower YD by $10 billion, resulting
in a decrease in consumer spending of $6 billion in
round 2.
-6.00
?
?
?
?
?
?
?
?
a. When government purchases decrease by $10 billion,
what is the sum of the changes in real GDP after the
10 rounds?
b. When the government reduces transfers by $10 bil-
lion, what is the sum of the changes in real GDP
after the 10 rounds?
Decrease in TR -$10 billion
(billions of dollars)
c. Using the formula for the multiplier for changes in
government purchases and for changes in trans-
fers, calculate the total change in real GDP due to
the $10 billion decrease in government purchases
and the $10 billion reduction in transfers. What
explains the difference? [Hint: The multiplier for
government purchases of goods and services is
1/(1-MPC). But since each $1 change in govern-
ment transfers only leads to an initial change in
real GDP of MPC × $1, the multiplier for govern-
ment transfers is MPC/(1-MPC).]
Change in
real GDP
$0.00
-6.00
?
?
?
?
?
?
?
?
Change in
YD
-$10.00
-6.00
?
?
?
?
?
?
?
?](https://content.bartleby.com/qna-images/question/f4c9d023-a138-44ea-adcb-6d34e25cba7d/ed949f52-12d5-4034-9478-5479de952f08/fyvho38_processed.png)
Transcribed Image Text:5. Show why a $10 billion reduction in government
purchases of goods and services will have a larger
effect on real GDP than a $10 billion reduction in
government transfers by completing the accom-
panying table for an economy with a marginal
propensity to consume (MPC) of 0.6. The first and
second rows of the table are filled in for you: on the
left side of the table, in the first row, the $10 billion
reduction in government purchases decreases real
GDP and disposable income, YD, by $10 billion, lead-
ing to a reduction in consumer spending of $6 billion
Rounds
1
2
3
4
5
6
7
8
9
10
Decrease in G=-$10 billion
(billions of dollars)
Change in
real GDP
Change in
G or C
AG = -$10.00
AC =
AC =
AC =
AC =
AC =
AC =
AC =
AC =
AC =
-6.00
?
?
?
?
?
?
?
?
-$10.00
-6.00
?
?
?
?
?
?
?
?
Change in
YD
-$10.00
-6.00
?
?
?
?
?
?
?
?
Change in
TR or C
ATR=-$10.00
AC =
AC =
AC =
AC =
AC =
AC =
AC =
AC =
AC =
(MPC x change in disposable income) in row 2. How-
ever, on the right side of the table, the $10 billion
reduction in transfers has no effect on real GDP in
round 1 but does lower YD by $10 billion, resulting
in a decrease in consumer spending of $6 billion in
round 2.
-6.00
?
?
?
?
?
?
?
?
a. When government purchases decrease by $10 billion,
what is the sum of the changes in real GDP after the
10 rounds?
b. When the government reduces transfers by $10 bil-
lion, what is the sum of the changes in real GDP
after the 10 rounds?
Decrease in TR -$10 billion
(billions of dollars)
c. Using the formula for the multiplier for changes in
government purchases and for changes in trans-
fers, calculate the total change in real GDP due to
the $10 billion decrease in government purchases
and the $10 billion reduction in transfers. What
explains the difference? [Hint: The multiplier for
government purchases of goods and services is
1/(1-MPC). But since each $1 change in govern-
ment transfers only leads to an initial change in
real GDP of MPC × $1, the multiplier for govern-
ment transfers is MPC/(1-MPC).]
Change in
real GDP
$0.00
-6.00
?
?
?
?
?
?
?
?
Change in
YD
-$10.00
-6.00
?
?
?
?
?
?
?
?
Expert Solution
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Introduction
Aggregate Demand: Aggregate demand in an economy is the sum of private consumption expenditure (C), private investment expenditure (I), government expenditure and the net exports (exports - Imports).
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- Assume there is no discretionary increase in government spending. Explain how an improving economy will affect the budget balance and, in turn, investment and the trade balance.arrow_forwardHow would a dramatic increase in the value of the stock market shift the AD curve? What effect would the shift have on the equilibrium level of GDP and the price level?arrow_forwardExplain the difference between the government purchases multiplier and the net tax multiplier. If the MPC falls, what happens to the tax multiplier?arrow_forward
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