Question

Suppose the marginal propensity to consume is 0.8 and the government votes to increase taxes by $3 billion. Round to the nearest tenth if necessary. Assume the tax rate and the marginal propensity to import are 0.
a. Calculate the tax multiplier.
b. Calculate the resulting change in the equilibrium quantity of real GDP demanded.

Answer 1

Answer:

a) -4

b) -12 billion

Explanation:

Question 1) Calculate the Tax Multiplier

FIrst, we know that the Marginal Propensity to Consume = 0.8

Based on this, the formula is as follows:

Multipier = -Marginal Propensity to Consume/ (1-Marginal Propensity to Consume)

Multiplier = -0.8/ (1-0.8) = -0.8/ 0.2 = -4

The Tax  Multiplier = -4

Question 2) The resulting change in the equilibrium quantity of real GDP demanded

Change in Demand = Change in Tax x The Tax Multiplier

Change in Demand = $3 billion x -4

= -12

This means that the equilibrium quantity of the real GDP is -12 billion