Suppose aggregate output is demand- determined. If the business community decreases its planned investment expenditures by $4 billion, causing equilibrium national income to fall by $20 billion, the marginal propensity to spend must be
A)2/5.
B)1/3.
C)1/2.
D)2/3.
E)4/5.

Question

Quizplus · Accepted Answer

The marginal propensity to spend (MPS) can be calculated using the multiplier effect formula: Multiplier = 1/(1-MPS). Given that a $4 billion decrease in investment leads to a $20 billion decrease in national income, the multiplier is 20/4 = 5. Solving 1/(1-MPS) = 5 gives MPS = 4/5.

Suppose Aggregate Output Is Demand- Determined