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Impact of Changes in MPC on Equilibrium GDP

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A. Suppose that the economy starts at equilibrium and the

mpc= 0.75. What would be the effect of a $300 increase in government spending once all the rounds of the multiplier process are complete?

b. suppose that the economy starts at equilibrium and the mpc = 0.8.

What would be the effect of a 300 increase in taxes once all the rounds of the multiplier process are complete?

c. Use your answer in 4a and 4b. above to show that:

"When taxes and government spending both increase by the same amount (or decrease by the same amount), the size of the deficit or surplus the government had before remains the same."

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Solution Preview

The marginal propensity to consume is the amount that you spend out of each additional dollar you earn. When the government increases its spending by $300, they spend it on goods or services in the economy. Someone will have to produce those goods and services. So they need to hire people to do that, and then pay those people. Those people again spend the money they earn on something else, and so on. This leads to a more than proportionate increase in the ...

Solution Summary

Examines how changes in MPC change the impact of deficit spending. Also examines how tax changes have a different impact from deficit spending.

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See Also This Related BrainMass Solution

Please identify and describe the effect of changing the tax rate on disposable income and consumption, as well as the post-tax multiplier.

Dear OTA: Help needed with the following:

*Please identify and describe the effect of changing the tax rate on disposable income and consumption, as well as the post-tax multiplier.

*Please describe the likely changes to equilibrium output and price levels resulting from the change in the tax rates. Begin by describing the effects on aggregate supply and/or demand to fully demonstrate the connection between the tax rate change and equilibrium.

*Please describe the change in tax revenues for the government in the new equilibrium, in both the short and longer terms

Overall, please assume that overall taxes are cut by 10 percent across the board. What will this change do to disposable income, consumption, and the multiplier? What's likely to happen to equilibrium output and prices? How will the tax cut affect government revenues in the new equilibrium?
Thank you!

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