Chapter 21, Problem 2CYU

To determine

The reason why the tax multiplier is smaller than the spending multiplier for a fall in government spending.

Explanation of Solution

The tax multiplier would be smaller in absolute value as compared to the spending multiplier while government purchases fall because the spending of the government affects the total expenditure and tax rates.

Moreover, a tax multiplier would also get affected by the disposable income of people in the economy as it has a direct impact on the overall consumption level of individuals in the country.

Therefore, the spending multiplier would be greater than the tax multiplier.

Economics Concept Introduction

Introduction: The spending multiplier represents the impact of change in autonomous spending on total spending and demand in the economy of the country, which may increase or decrease.

And, a tax multiplier is used to identify the final increase in the level of real GDP with the change in tax rates.