If, in an economy, a $200 billion increase in consumption spending creates $200 billion of new income in the first round of the multiplier process and $160 billion in the second round, the marginal propensity to consume and the multiplier are, respectively,
A)0.8 and 5.0.
B)0.4 and 2.5.
C)0.4 and 1.67.
D)0.2 and 1.25.

Question

Quizplus · Accepted Answer

The marginal propensity to consume (MPC) is calculated as the change in consumption divided by the change in income. Here, the second round of income is $160 billion, which is 80% of the first round's $200 billion. Thus, MPC = 0.8. The multiplier is calculated as 1/(1-MPC), which is 1/(1-0.8) = 5.0.

If, in an Economy, a $200 Billion Increase in Consumption