Question

If the MPC is 5/6 then the multiplier is

Answer 1

Answer: a. 6, so a $200 increase in government spending increases aggregate demand by $1200.

Explanation:

The multiplier, k is defined as the total effect of an injection on the economy. For example if the government decides to inject $200 through into the economy by carrying out new road constructions, the total amount this creates is more than $200.

The contractors who are assigned the projects spend some of the money on delivering the project and the remaining on investment, savings or consumption. This is also true for the employees of the company.

The formula to calculate the multiplier, k = $\frac{1}{1-MPC}$

Therefore, k = $\frac{1}{1-5/6}$

k = 6

The total injection in the economy = 6 x $200 = $1,200