KING S UNIVERSITY COLLEGE. Economics 1022B (570 & 574) Review Questions for Chapter 27

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1 KING S UNIVERSITY COLLEGE Economics 1022B (570 & 574) G. Copplestone Review Questions for Chapter 27 Multiple Choice Questions: 1) If the marginal propensity to consume is 0.85, what change in consumption expenditure would you expect if disposable income increases by $200 million? A) $20 million B) $170 million C) $180 million D) $1,800 million E) $18 million 2) If consumption is $8,000 when disposable income is $10,000, the marginal propensity to consume A) is B) is C) is D) is E) cannot be determined from the information given. 3) When the consumption function lies below the 45 line, households A) spend all of any increase in disposable income. B) consume more than their disposable income. C) are saving some portion of their disposable income. D) save all of any increase in disposable income. E) are dissaving. 4) Which of the following events would shift the consumption function upward? A) an increase in disposable income B) a decrease in disposable income C) a decrease in wealth D) a decrease in expected future disposable income E) an increase in wealth 5) Everything else remaining the same, a decrease in expected future income current consumption expenditure and saving. A) increases; increases B) increases; decreases C) decreases; increases D) decreases; decreases E) does not change; does not change

2 6) The marginal propensity to consume A) is equal to zero when disposable income equals consumption expenditure. B) is equal to 1 minus the slope of the saving function. C) is negative when saving is positive. D) increases as the economy moves upward along the consumption function. E) is greater than the slope of the 45-degree line. 7) If AE = Y and Y = 300, then unplanned inventories A) increase by 10. B) increase by 200. C) decrease by 10. D) decrease by 200. E) do not change and equilibrium exists. 8) Equilibrium expenditure occurs when A) consumption equals real GDP. B) aggregate planned expenditure equals real GDP. C) aggregate planned expenditure equals consumption. D) induced consumption equals aggregate planned expenditure. E) the price level equals ) Which one of the following will lead to an increase in the slope of the AE function? A) an increase in the marginal propensity to import B) an increase in the marginal tax rate C) a decrease in the marginal propensity to consume D) a decrease in the marginal propensity to save E) an increase in the marginal propensity to save 10) Everything else remaining the same, which one of the following would increase equilibrium real GDP? A) an increase in saving B) an increase in exports C) a decrease in investment D) an increase in taxes E) a decrease in exports 11) As the aggregate expenditure curve becomes steeper, the value of the multiplier becomes A) equal to the marginal propensity to save. B) larger. C) smaller. D) negative. E) greater than 1.

3 12) If investment increases by $200, and as a result income increases by $800, then the A) multiplier is 1/4. B) slope of the AE curve is C) slope of the AE curve is 1/4. D) multiplier is 3. E) none of the above 13) An economy has a fixed price level, no imports, and no income taxes. MPC is 0.5 and real GDP is $300 billion. Businesses increase investment by $10 billion. The new level of real GDP is A) $320 billion. B) $20 billion. C) $5 billion. D) $305 billion. E) $300 billion. 14) A rise in the price level A) decreases aggregate expenditure and produces a movement up along the aggregate B) decreases aggregate expenditure and produces a rightward shift of the aggregate C) decreases aggregate expenditure and produces a leftward shift of the aggregate D) has no effect on aggregate expenditure. E) increases aggregate expenditure, but has no effect on the aggregate 15) Suppose the multiplier is 2 and the short-run aggregate supply curve is positively sloped. Investment increases by $10 billion. In the short run, equilibrium real GDP A) increases by $20 billion. B) increases by more than $20 billion. C) decreases by less than $20 billion. D) does not change. E) increases by less than $20 billion.

4 Short Answer Questions: 1. The chart below summarizes the consumption function for a household where taxes are zero. Income Consumption Expenditure $ 0 $ 4,000 $10,000 $12,000 $20,000 $20,000 $30,000 $28,000 $40,000 $36,000 (a) Compute the MPC (marginal propensity to consume) and MPS (marginal propensity to save) and the level of saving when disposable income is $40,000 (b) Carefully sketch the consumption function above and sketch the implied savings function as well. Briefly explain your derivation of the savings function. (c) If planned investment expenditures amount to $2,000 regardless of the income level, determine the equilibrium level of income (GDP). Explain your answer. Assume government expenditures and net exports are both zero. (d) Draw a fully labelled diagram to show your equilibrium. 2. Given the following model: C = (Y - T) I = 175 G = 100 X = 200 M = 0.15 Y T = 100 Y* = 3500 (a) What is the value of the MPC? (b) Determine the value of the multiplier. Show all your work. (c) Find the equilibrium value of GDP. Show all your work. (d) If the government wanted to move the economy to full employment GDP, by how much will they have to change their spending (G) level by? Explain your answer and show all your work. (e) Define the tax multiplier. Calculate the value of the tax multiplier. Show all your work. (f) If the government wanted to move the economy to full employment GDP, by how much will they have to change (lump sum) taxes (T) by? Explain your answer and show all your work. (g) Define the balanced budget multiplier. Calculate the value of the balanced budget multiplier.

5 (h) If the government wanted to move the economy to full employment GDP without incurring a deficit, by how much would they have to change both government spending and taxes by? Explain your answer and show all your work.