Question

1. Calculate GDP loss if equilibrium level of GDP is $10,000, unemployment rate 9.8%, and the MPC is 0.75.

GDP loss:

a) How much money should the government spend to eliminate this GDP loss?

b) Calculate the tax cut needed to eliminate this GDP loss.

Answer 1

Solution: GDP loss: $860

Working:

GDP loss: [(MPC* Unemployment rate) /100] * Equilibrium level of GDP

GDP loss: = [(0.75*9.8)/100 * 10,000] + 125

GDP loss: = 735 + 125

GDP loss: = 860

1) Money government should spend to eliminate this GDP loss: $215

Working:

MPS: 1/(1-MPC) = 1 /0.25 = 4

Thus Money government should spend to eliminate this GDP loss $860/4 = $215

2) Tax cut required to eliminate GDP loss: $382.22

Working: Tax cut required to eliminate GDP loss: $860/(0.75*3) = $382.22