Question

5. In order to financially stimulate the nation, the Federal government injected $900 billion dollars into the economy. However, the results were less than spectacular. One reason could have been a failure to understand the marginal propensity to consume. Assume the marginal propensity to consume (MPC) was only 0.3. How much of that $900 billion went to increased consumption? Where did the rest of the money go?

Increased consumption: ________________________

Where did the rest go? _________________________

Using MPC = 0.3, what is the multiplier (the actual numerical value please):

___________________

What was the total change in spending as a result of the stimulus package?

__________________

Answer 1

Federal government has injected $900 billion in to the economy.

This will increase the income in the economy by $900 billion.

MPC = 0.3

Calculate the increased consumption -

Increased consumption = Increase in income * MPC

Increased consumption = $900 billion * 0.3 = $270 billion

The consumption will increase by $270 billion.

The rest of the amount will go to saving. In other words, the rest of the amount ($630 billion) would be saved by the households.

Calculate the multiplier -

Multiplier = 1/(1 - MPC)

Multiplier = 1/(1 - 0.3)

Multiplier = 1/0.7

Multiplier = 1.43

Thus,

The multiplier is 1.43

Calculate the total change in spending as a result of the stimulus package -

Total change in spending = Initial increase in consumption * Multiplier

Total change in spending = $270 billion * 1.43 = $386.10 billion

Thus,

The total change in spending as a result of the stimulus package is $386.10 billion.