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In an economy, the MPC = 1.75. government needs to increase expenditures 520 to complete a...

In an economy, the MPC = 1.75. government needs to increase expenditures 520 to complete a project, but it does not want to increase debt, so it increases taxes s20 billion as well. Thus, there is balanced budget spending. What, if any, will be the change in output generated by this balanced-budget expenditure scenario, Change in output is

$0

$15 billion increase

$20 billion increase

$20 billion decrease

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Answer #1

** here as per the language of the question, i assume that both govt spending and taxes are increase by $20 billion, you just put 5 in place of $ in the first line Also MPC cannot be more than 1 so assume that MPC = 0.75**

Ans - c) $20 billion increase

Explanation:

When both govt spending and taxes increases by same amount than the output increase by the same amount also because when govt spending increases it increase output with multiplier and when taxes increases it decreases by multiplier again.

Govt spending multiplier = 1/( 1-mpc) = 1/0.25 = 4

tax multiplier = -mpc/ (1-mpc) = -0.75/0.25 = -3

So output first increase by 4 times then decrease by 3 times.

Output increases due to govt spending = 20*4 = 80 billion

Output decreases due to tax increases = 20*(-3) = -60 billion

Total increase in output = 80 - 60 billion = 20 billion

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