Using the graph, show what happens to the aggregate expenditures curve (AE1) when autonomous...

Question

Using the graph, show what happens to the aggregate expenditures curve (AE1) when autonomous expenditures fall (to AE2). Y AE1 Using the graph, draw consumption curve C2 showing what happens to equilibrium income when the marginal propensity to consume (in C1) rises (to C2). Y C1 The marginal propensity to consume is .7 and autonomous expenditure is 4,000. What is the level of equilibrium income in the economy? Demonstrate graphically. Show all relevant labels. Y If C = 20 + .7Y, compute the multiplier (M).

David · Accepted Answer

1 
 
                                                     
1. Using the graph, show what happens to the aggregate expenditures curve (AE1) when 
autonomous expenditures fall (to AE2).   
 
                                                Y    
                                                                   AE1  
 
                                                                  AE2                                                        
 
 
                                
 
2. Using the graph, draw consumption curve C2 showing what happens to equilibrium income 
when the marginal propensity to consume (in C1) rises (to C2).   
 
                                
 
3. The marginal propensity to consume is .7 and autonomous expenditure is 4,000.  What is the 
level of equilibrium income in the economy?  Demonstrate graphically.  Show all relevant labels. 
 
        Answer: 
At equilibrium Y = C i.e. 
Y = 4000 + 0.7Y, or 
0.3Y = 4000, implies equilibrium income (Y*) = 13333.33 
 
 
2 
 
4. If C = 20 + .7Y, compute the multiplier (M).  Explain the economic meaning of the multiplier.  
Show all formulas and calculations 
Answer: 
Given consumption function: C = 20 + .7Y 
 
Marginal propensity to consume (mpc) = 0.70 
 
Multiplier is given as: 
M = 1/(1-mpc) = 1/(1-0.70) = 3.

Using the graph, show what happens to the aggregate expenditures curve (AE1) when autonomous expenditures fall (to AE2). Y AE1 Using the graph, draw consumption curve C2 showing what happens to...

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