For this part of the problem, we're given that the change or increase in investment is $8 billion and that the marginal propensity to consume (MPC) is 0.80 (4/5).
When performing calculations that involve the gross domestic product, we can use the GDP equation:
Y = C + I + G + NX
Here, *Y is the GDP that is dependent upon:
Consumption (C)
Investment (I)
Government spending (G)
Net exports (NX)
This equation plays an important role in solving the given problem because we have to calculate the GDP.
The multiplier is given by 1 / (1 - MPC).
So:
Change in Y = 1 / (1 - MPC) * change in investment (I)
Change in Y = 1 / {1 - (4/5)} * 8
Change in Y = 5 * 8
Change in Y = 40 billion
Thus, this $40 billion will be equal to income.
Answer:
A. GDP will increase by $130 billion
B. GDP will increase by $52 billion
Explanation:
A. If firms increase their investment by $13 billion and the MPC is 0.9 ,
to get the change in GDP, we multiply the increase in investment expenditure of the firm by the investment expenditure multiplier
ΔGDP = Δ I x 1/(1-b)
Where:
ΔGDP = Change in Gross Domestic Product (GDP)
Δ I = Change in Investment
1/(1-b) = Investment Expenditure Multiplier
b = Marginal Propensity to Consume (MPC)
ΔGDP = Δ I x 1/(1-b)
Δ I = $13 billion
b = 0.9
ΔGDP = $13 billion x 1/(1-0.9)
= $13 billion x 1/(0.1)
= $13 billion x 10
= $130 billion
This means that with marginal propensity to consume of 0.9 and marginal propensity to save of 0.1 i.e. (1-0.9) an autonomous $13 billion change in investment expenditures results in a change in national income of $130 billion change in national income. With MPC of 0.9, the investment expenditure multiplier is 10, that is, any change in investment will have a multiplier effect of 10.
A. If firms increase their investment by $13 billion and the MPC is 0.975
B. ΔGDP = Δ I x 1/(1-b)
Δ I = $13 billion
b = 0.75
ΔGDP = $13 billion x 1/(1-0.75)
= $13 billion x 1/(0.25)
= $13 billion x 4
= $52 billion.
This means that with marginal propensity to consume of 0.75 and marginal propensity to save of 0.25, i.e. (1-0.75) an autonomous $13 billion change in investment expenditures results in a change in national income of $52 billion change in national income. With MPC of 0.75, the investment expenditure multiplier is 4, that is, any change in investment will have a multiplier effect of 4.
