Question

Assume that a hypothetical economy with an mpc of 0.75 is experiencing severe recession. by how much would government spending have to rise to shift the aggregate demand curve rightward by $40 billion

Answer 1

When finance people talk about MPC, they refer to the Marginal Propensity to Consume. This is the ratio of the change in consumption to the change in income. When you plot income against consumption or spending, the slope is the MPC. In equation, it is:

MPC = ΔConsumption/ΔIncome

In this problem, MPC is 0.75 and ΔIncome is $40 billion. Therefore,

0.75 = ΔConsumption/$40 billion
ΔConsumption = $30 billion

Thus, the rise in government spending should be by $30 billion in order to achieve a MPC of 0.75.