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Assume the marginal propensity to consume (MPC) is 0.75 and the economy is in recession with real GDP $1 trillion below...

Assume the marginal propensity to consume (MPC) is 0.75 and the economy is in recession with real GDP $1 trillion below full-employment real GDP. To achieve full employment, aggregate demand (AD) must be increased $2 trillion. Following discretionary fiscal policy, government spending should be increased:
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Answer #1

Increase in GDP = $2 million - $1 million = $1 million (this is also the money supply)

Money supply = Government spending (G) / (1 – MPC)

1,000,000 = G / (1 – 0.80)

1,000,000 × 0.20 = G

G = $200,000 (Answer)

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