If the MPC is 0.80 and the government increases spending on cancer research by $15 billion.(a) What is the value of the initial impact on real GDP? What is the value of the total impact on real GDP? What effect do you think a $50 billion increase in government spending will have on the economy?(b) Assume the MPC is 0.80 and policy makers have targeted real GDP to increase by $200 billion. By how much must taxes be reduced to achieve this goal?

(a) What is the value of the initial impact on real GDP? What is the value of the total impact on real GDP? What effect do you think a $50 billion increase in government spending will have on the economy?

The initial impact will be $15 billion.

The total impact should = $15 x [1 / (1 - 0.8)] = $15 x (1/0.2) = $15 x 5 = $75 billion.

If the government increased expending by $50, the total impact = $50 x 5 = $250 billion

(b) Assume the MPC is 0.80 and policy makers have targeted real GDP to increase by $200 billion. By how much must taxes be reduced to achieve this goal?

tax multiplier = 0.8 / (1 - 0.8) = 0.8 / 0.2 = 4

the government should decrease taxes by $200 / 4 = $50 billion

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