Question

For a given income, if government spending and taxes change by equal amount which one brings a bigger change in income? Why?

Answer 1

With the given income, an equal change in the both government expenditure and taxes, the government expenditure will cause greater change in the income level.

This is because the government spending multiplier is more than the tax multiplier.

Government spending multiplier =1/mps

Tax multiplier =- mpc/mps

For example if mpc=0.8 and mps=0.2

Government spending multiplier =1/0.2

=5

Tax multiplier =-0. 8/0.2

=-4

Hence change in the government spending leads to more change in the income compared to change in the tax.