Question

Suppose the MPC is 0.8. Assume there are no crowding out or investment accelerator effects. If the government decreases expenditures by $100 billion, then by how much does aggregate demand change?

	A.	$100 billion
	B.	-$100 billion
	C.	$500 billion
	D.	-$500 billion

If the MPC = 0.2, then the government purchases multiplier is

	A.	0.2.
	B.	0.8.
	C.	5
	D.	1.25.

According to the AS-AD model, an increase in the money supply causes

	A.	prices to decrease in the long run.
	B.	prices to rise in the long run.
	C.	unemployment to rise in the long run.
	D.	interest rates to fall in the long run.

You are trying to decide whether to use the GDP deflator or the CPI to calculate the inflation rate in an economy. You will decide to use the CPI if

	A.	you are only concerned about prices that firms face
	B.	you want to make sure you include all goods and services captured in GDP
	C.	you are only concerned about prices consumers face
	D.	you want to make sure you include all transactions that take place in the economy

Answer 1

1 answer is -500 Billion $

MPC = 0.8

Multiplier = 1 / 0.2 = 5

Change in Aggregate Demand = Multiplier * 100 = 5 * - 100 = -500

2Answer is 1.25

Multiplier = 1 / 0.8 = 1.25

3 According to the AS-AD model, an increase in the money supply causes “prices to rise in the long run”

4 We will use CPI over Deflator if “you are only concerned about prices consumers face”

Deflator measures inflation on domestic prices whereas CPI include imported goods that do form part of consumer purchases.