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chapter:
26A 11A
ECONOMICS
MACROECONOMICS
Appendix: Deriving the
Multiplier Algebraically
1. In an economy without government purchases, transfers, or taxes, and without
imports or exports, aggregate autonomous consumer spending is $500 billion,
planned investment spending is $250 billion, and the marginal propensity to con-
sume is 0.5.
a. Write the expression for planned aggregate spending as in Equation 26A-1.
b. Solve for Y* algebraically.
c. What is the value of the multiplier?
d. How will Y* change if autonomous consumer spending falls to $450 billion?
Solution
1. a. In an economy without government purchases, planned aggregate spending
equals the aggregate consumption function plus planned investment spending:
AEPlanned = C + IPlanned
AEPlanned = $500 billion + 0.5 × YD + $250 billion
b. In an economy without taxes or government transfers, GDP equals disposable
income. The economy will be in income–expenditure equilibrium when GDP
equals planned aggregate spending:
Y* = $750 billion + 0.5 × Y*
0.5 × Y* = $750 billion
Y* = $1,500 billion
c. The value of the multiplier is 2 [= 1/(1 − 0.5)].
d. If autonomous consumer spending falls to $450 billion, it will have decreased by
$50 billion. Given a multiplier of 2, Y* will fall by $100 billion when autonomous
consumer spending falls by $50 billion. The new Y* equals $1,400 billion.
2. Complete the following table by calculating the value of the multiplier and identi-
fying the change in Y* due to the change in autonomous spending. How does the
value of the multiplier change with the marginal propensity to consume?
S-159
Solution
2.
The value of the multiplier increases with an increase in the marginal propensity to
consume.
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