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CB2 - Sept 2010, qus 12

B

Bharti Singla

Senior Member
In a closed economy with no government sector, the marginal propensity to save is 0.1, investment is £500 million, and autonomous consumption is £200 million. Which of the following statements is TRUE at the equilibrium level of national income?
A. Planned savings are £300 million.
B. The marginal propensity to consume is higher than the average propensity to consume.
C. Consumption expenditure is equal to £6,500 million.
D. The gross domestic product is £6,800 million

The correct answer is C.

Can anyone please explain the calculation?
 
Hi Bharti

The formulae we need are:
Y = T + C + S (note T = 0 since no government sector)
W = J at equilibrium (which simplifies to I = S since as well as no government there are no exports/imports)

The consumption function is given by C = 200 + 0.9Y, and since I = S we have:
Y = C + S = 200 + 0.9Y + 500

Thus at equilibrium Y = 7000, and C = 200 + 0.9Y = 6,500.

Dave
 
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