Question

The President of Vulcan hires you as an economic consultant. He is concerned that the output level in Vulcan is too high and that this will cause prices to rise. He feels that it is necessary to reduce output by $10 billion. He tells you that the MPC in Vulcan is 0.6. Which of the following would be the best advice to give to the Vulcan president? A) reduce government purchases by $4 billion B) reduce government purchases by $10 billion. C) increase taxes by $2.5 billion. D) increase taxes by $10 billion

Answer 1

Answer:

• A) reduce government purchases by $4 billion

Explanation:

Vulcan economy :

MPC =  0,6

Reduce Output by $10 billion.

To find the number that will have a negative impact in the economy of 10 billion, we need a number that multiply by the multiplier gives 10 billion.

The multiplier will be  

1 / (1- MPC) =  

1 / (1- 0,6) =  

1 / 0,4 =  

2,5  

Then the Vulcan economy need to reduce goverment purchases by $4 billion.

The solution is as follows: 2,5 (multiplier) * $4 billion = $10 billion of decrease in the GDP