Suppose that the MPC is 0.5 and there is no investment accelerator or crowding-out effects. If government expenditures increase by $200 billion, what happens to aggregate demand?
A) It shifts right by $200 billion.
B) It shifts left by $200 billion.
C) It shifts right by $400 billion.
D) It shifts left by $400 billion.

Question

Quizplus · Accepted Answer

With an MPC of 0.5, a $200 billion increase in government expenditures will lead to a $400 billion increase in aggregate demand. This is because the MPC represents the proportion of an increase in income that will be spent. In this case, with an MPC of 0.5, half of the $200 billion increase in government expenditures will be spent, leading to a total increase in aggregate demand of $400 billion (2 times the initial increase). There are no investment accelerator or crowding-out effects stated in the question to consider.

Suppose That the MPC Is 0