HomeQuestionsEconomicsInvestment Spending and GDP Change
📚 Learning Guide
Investment Spending and GDP Change
hard

A government decides to stimulate the economy by increasing investment spending by $300 billion. If the marginal propensity to save (MPS) is 0.25, what is the expected increase in real GDP, and how does this illustrate the multiplier effect?

Master this concept with our detailed explanation and step-by-step learning approach

Learning Path
Learning Path

Question & Answer
1
Understand Question
2
Review Options
3
Learn Explanation
4
Explore Topic

Choose the Best Answer

A

The GDP will increase by $1.2 trillion, demonstrating a strong multiplier effect.

B

The GDP will increase by $600 billion, indicating a direct 2:1 ratio of investment to GDP change.

C

The GDP will increase by $900 billion, showing a moderate multiplier effect due to high savings.

D

The GDP will increase by $1 trillion, reflecting the relationship between investment and consumption.

Understanding the Answer

Let's break down why this is correct

Answer

When the government increases investment spending by $300 billion, this money will circulate through the economy and create more spending. The marginal propensity to save (MPS) tells us how much people save from their income, which in this case is 0. 25. This means that for every dollar earned, people save 25 cents and spend 75 cents. To find the multiplier effect, we first calculate the multiplier, which is 1 divided by MPS, giving us a multiplier of 4.

Detailed Explanation

The GDP will increase by $1.2 trillion. Other options are incorrect because This answer suggests a simple 2:1 ratio; This answer shows a misunderstanding of the multiplier effect.

Key Concepts

Investment Spending
Multiplier Effect
Marginal Propensity to Save
Topic

Investment Spending and GDP Change

Difficulty

hard level question

Cognitive Level

understand

Ready to Master More Topics?

Join thousands of students using Seekh's interactive learning platform to excel in their studies with personalized practice and detailed explanations.

Start Learning with SeekhExplore More Investment Spending and GDP Change Questions