Question

a. Reynes digu . Question 6 (2 points) If equilibrium output and income (Y) is 1,000 less than potential output at full employment (Y), and the marginal propensity to consume is 0.8, how much additional autonomous spending is needed to reach full employment that is, what is the recessionary gap)? If the government decreased total taxes out of income (T), how much would the tax cut have to be to bring the economy to full employment?

Answer 1

Ans: $200 additional autonomous spending is needed to reach full employment.

Explanation:

Recessionary gap = 1000

Spending multiplier = 1 / ( 1 - MPC) = 1 / ( 1 - 0.8 ) = 1 / 0.2 = 5

Additional autonomous spending is needed to reach full employment or bridge the recessionary gap;

= 1000 / 5 = $200

Ans: The tax cut = $250

Explanation:

MPC + MPS = 1

MPS = 1- MPC = 1 - 0.8 = 0.2

Tax multiplier = - MPC / MPS

= - 0.8 / 0.2 = - 4

Tax cut required to bring the economy to full employment;

= 1000 / - 4 = -$250