Question

Assume that a country is currently producing at a level of output equal to $600 billion. The government decides to increase expenditures by $25 billion, and the nation’s MPC is 0.8. Based on the spending multiplier, what is the nation’s new level of total output (in billions of dollars)?

Answer 1

According to the Multiplier Effect, the total output will be the sum of the current output plus the increase in expenditures multiplied by a factor.

The multiplier is given by:
m = 1 / (1 - MPC)
Therefore:
m = 1 / (1 - 0.8) = 1 / 0.2 = 5

Hence, the new total output will be:
600 + 5×25 = 725 billion $