Question

. Complete the following:

a. If the tax multiplier is -1, then the marginal propensity to save is _________ the marginal propensity to consume.

b. If the government spending multiplier is 8, then the marginal propensity to save equals______.

c. If the marginal propensity to consume is two times the marginal propensity to save, then the government spending multiplier equals _______.

d. If the marginal propensity to save is 0.5, then the tax multiplier equals _______.

e. If the marginal propensity to save increases by 10 percent, then the government spending multiplier ________.

f. If the marginal propensity to consume goes from 0.8 to 0.85, then the tax multiplier _________.

g. If the tax multiplier increases (in absolute value) from -1 to -2, this means that the marginal propensity to consume has ______ relative to the marginal propensity to save.

h. If the government spending multiplier decreases from 5 to 4, this means that the marginal propensity to save has _______.

Answer 1

(a)

Tax multiplier = -MPC / (1 - MPC)

=> -1 = -MPC / (1 - MPC)

=> -1 (1 - MPC) = -MPC

=> -1 + MPC = -MPC

=> MPC + MPC = 1

=> 2MPC = 1

=> MPC = 1 / 2

=> MPC = 0.5

and, MPC + MPS = 1

=> MPS = 1 - MPC

=> MPS = 1 - 0.5 => MPS = 0.5

Marginal Propensity to save is 0.5, the marginal propensity to consumer is 0.5

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(b) Government spending multiplier = 1 / MPS

=> 8 = 1 / MPS

=> MPS = 1 / 8

=> MPS = 0.125

Marginal propensity to save is 0.125.

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(c) MPC = 2MPS

Note: MPC + MPS = 1

=> 2MPS + MPS = 1

=> 3MPS = 1

=> MPS = 1/3

Government spending multiplier = 1 /MPS

=> Government spending multiplier = 1 / (1/3)

=> Government spending multiplier = 3

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(d) MPS = 0.5

=> MPC = 1 - MPS

=> MPC = 1 - 0.5

=> MPC = 0.5

Tax multiplier = -MPC / (1-MPC)

=> Tax multiplier = -0.5 /(1 - 0.5)

=> Tax multiplier = -1

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(e) Government spending multiplier = 1 / MPS

=> % change in govt.spending multiplier = -% change in MPS

Note: % change in MPS = 10

=> % change in govt. spending multiplier = -10

Hence, the govt spending will decrease by 10%.

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(f) Tax multiplier = -MPC / (1 - MPC)

If MPC is 0.8

=> Tax multiplier = -0.8 /(1-0.8) = -4

If MPC is 0.85

=> Tax multiplier = -0.85 / (1 -0.85) = -5.67

Then tax multiplier increase from -4 to -5.67

Note: The absolute value is increasing.

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(g) Tax multiplier = -MPC / (1 - MPC)

If tax multiplier is -1

=> -1 = -MPC / (1-MPC)

=> MPC = 0.5

and MPS = 1 - MPC = 0.5

If tax multiplier is -2

=> -2 = -MPC / (1-MPC)

=> MPC = 0.67

and MPS = 1- MPC = 0.33

The MPC has increase relative to the MPS

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(h) Governmnet spending multiplier = 1 / MPS

If Governmnet spending multiplier is 5

=> 5 = 1 /MPS

=> MPS = 1 / 5 = 0.2

If Governmnet spending multiplier is 6

=> 6 = 1 / MPS

=> MPS = 1 / 6 = 0.166

This means MPS has decrease.