Why is the answer C? If the economy is at equilbrium level, then shouldn't S = I? And if this is true, and we know that I = £500m, then S = £500m. If marginal propensity to save is 0.1, then £500m/0.1 = £5000m, which means that Cd = £4500m (£500m saved, £4500 spent). So Cd + autonomous expenditure = £4500 + £200 = £4700m. What am I missing? Thanks very much
Yes, in equilibrium, S = I = 500. The bit that you're missing is how autonomous consumption works. Autonomous consumption is the part of consumption that does not depend on GDP, so, as an expression: consumption = autonomous consumption + mpc x GDP (In the textbook they usually ignore autonomous consumption and just have C as a linear function of GDP.) Since mps = 0.1, we must have mpc = 0.9. So: C = 200 + 0.9 x GDP. In equilibrium, GDP = E = C + I = 200 + 0.9 x GDP + 500 ie: 0.1 x GDP = 700, so equilibrium GDP = 7000. Substituting this into our consumption formula gives: C = 200 + 0.9 x 7000 = 6500, ie option C.
That's great. Thanks. I used your logic to answer another question and I got the correct answer so kudos to the teacher I am ok for some of CT7, but not ok for others. Mostly because I have neglected the subject in favour of CT6. But alas, I have no one to blame but myself
