Question

Using the information given and the equation C = $200B + b(Y_D), please answer the following questions.

1. Calculate the value of Consumption (C) using the equation C = $200B + b(Y_D) (3 points)
2. What is the value of MPC? (2 points)
3. What is the value of MPS? (2 points)
4. What is the value of multiplier M? (2 points)
5. What happens to the value of multiplier M when MPC increases? (2 points)
6. What happens to the value of multiplier M when MPS increases? (2 points)
7. Suppose that investment demand increases by $100 billionin a closed and private economy. Using the multiplier M you calculated in the #4, what will be the final cumulative impact on spending? (4 points)
8. The action above (aggregate demand increase) will shift the AD curve to the right or left? (1 point)
9. From your given information, do you have a saving or dissaving? (1 point)
10. What is the amount of your saving or dissaving? (1 point)

For example, if I were doing this assignment, I would be using the following given information to answer the 8 questions.

C = $200B + b(Y_D)

b = 0.9

Y_D = $950B

Answer 1

We have the following information

Consumption: C = $200B + b(Y_D)

In the above C is consumption, b is the slope coefficient, and Y_D is the disposable income.

It is given that b = 0.9 and Y_D = $950B

So,

C = $200B + 0.9($950B)

C = $200B + $855B

So, C = $1055B

The slope coefficient of the consumption equation is called the marginal propensity to consume (MPC). MPC measures the proportion of extra disposable income that is spent on consumption.

So, MPC = 0.9

Marginal propensity to save (MPS) is the proportion of extra disposable income that is saved. It is nothing but 1 – MPC.

So, MPS = 1 – 0.9 = 0.1

The value of multiplier is 1/(1 – MPC)

Multiplier = 1/(1 – 0.9)

Multiplier = 1/0.1

Multiplier = 10

When the MPC increases then the value of the multiplier also increases. This is because increased consumption leads to increased spending which raises demand and income in the economy.

When the MPS increases then the value of the multiplier declines.

Increase in the investment demand by $100 billion will raise the level of aggregate demand and income by the amount of ($100 billion × 10) $1000 billion. The increased demand and income will shift the aggregate demand curve upward to the right. The shift will happen because movement along the demand curve happens only when there is a change in the price level.

Increased level of income will cause both the consumption and savings to increase.

Y = C + I

Where Y is income, C is consumption and I is savings.

Y = $1000B

I = $100B

So, C = Y – I

C = $1000B -- $100B

C = $900B

We also know that

Y = C + S

Where S is savings

So,

$1000B = $900B + S

Savings = $100B