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10 December, 19:09

With the economy in a recession because of inadequate aggregate demand, the government increases its purchases by $1,200. Suppose the central bank adjusts the money supply to hold the interest rate constant, investment spending is fixed, and the marginal propensity to consume is 2/3.

How large is the increase in aggregate demand?

A. $400

B. $800

C. $1,800

D. $3,600

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Answers (1)
  1. 10 December, 20:25
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    The answer to this question is D. $3,600

    Explanation:

    Multiplier = 1 / 1 - MPC

    where the MPC = 2/3

    1 / 1 - 2/3 = 3

    Therefore the total effect of a $1,200 increase in spending is 3 x $1200 = 3600.

    hence the answer is D. $3,600
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