CT7 September 2010, q11 and q12

[VSA_88]

Hi
I think I am missing some key bits of information to answer these questions. Can someone please go through how you get the answers?

Questions attached.

Thanks

 

[Gresham Arnold]

Hi Amandeep, these are difficult questions! In both of these questions there is some autonomous consumption so:

C= a + bY

where a is autonomous expenditure on consumption and b reflects the marginal propensity to consume

Q11

We are told the marginal propensity to save (mps) = 0.25. We are not given any information about other withdrawals eg taxes, so we assume they are zero and the marginal propensity to consume (mpc) must be 1-mps = 0.75. So for every additional £1 of income, 75p is spent on consumption

We are also told autonomous expenditure = 15m

So C = 15 + 0.75Y

We are told Y = 200, so C = 15 + 0.75 x 200 = £165m ie Option B

Q12

We are told the mps = 0.1. Again we aren't given any information about other withdrawals so we assume they are zero and so the mpc = 0.9

Autonomous consumption is £200m

So C = 200 + 0.9Y

At equilibrium, Aggregate Demand (AD) = National Income (Y)

AD = C + I + G + X - M. But in this question we are told there is a closed economy with no government so X, M and G are zero

So AD = C+ I

So at equlibrium = 200 + 0.9Y + 500 = Y. Therefore at equilibrium, Y = £7000m

Can you use this information to test each of the statements to identify which is correct?

Gresham

 

[VSA_88]

Thanks Gresham! Managed to figure it out in the end, but do appreciate how you've laid the calculation steps out - certainly been helpful.