Question

Calculate the change in the value of equilibrium income when the government increases spending by 100 at a given marginal propensity to consume 0.8.

• A. 800
• B. 500
• C. 80
• D. 5

Hint:

When \(MPC = 0.8\), the expenditure multiplier is always 5.
Multiplying the spending injection directly: \(\Delta Y = 5 \times 100 = 500\).

Answer 1

The Correct Option is B

Concept:
An increase in government expenditure (\(G\)) increases aggregate demand directly and stimulates output through the government expenditure multiplier.

Step 1: Formula for the Government Spending Multiplier:
The government spending multiplier (\(k_G\)) is given by: \[ k_G = \frac{\Delta Y}{\Delta G} = \frac{1}{1 - MPC} \] where:
\(\Delta Y\) is the resulting change in equilibrium income,
\(\Delta G\) is the change in government spending, and
\(MPC\) is the marginal propensity to consume.

Step 2: Calculating Multiplier and Change in Income:
Given: \[ \Delta G = 100, \quad MPC = 0.8 \] First, compute the multiplier: \[ k_G = \frac{1}{1 - 0.8} = \frac{1}{0.2} = 5 \] Now calculate the change in national income: \[ \Delta Y = k_G \times \Delta G \] \[ \Delta Y = 5 \times 100 = 500 \] Final Answer:
The change in equilibrium national income is 500. Hence, option (B) is the correct answer.