Question

Suppose economists observe that an increase in government spending of $10 billion raises the total demand for goods and services by $30 billion. if these economists ignore the possibility of crowding out, they would estimate the marginal propensity to consume (mpc) to be

Answer 1

Answer: 2/3

Explanation: Crowding out may described as an effect which stems from government involvement in an economic market resulting in the reduction of personal consumer goods or investments and businesses due to rising interest rates and low capital accumulation.

In the question above, if crowding out is ignored, The marginal propensity to consume(MPC) will be:

Multiplier = $30 billion ÷ $10 billion = 3

Multiplier = 1÷ (1 - MPC)

3 = 1 ÷ (1 - MPC)

3(1 - MPC) = 1

3 - 3MPC = 1

-3MPC = 1-3

-3MPC = - 2

MPC = 2/3