5. In each of the following cases, either arecessionary or inflationary gap exis

Question

5. In each of the following cases, either arecessionary or inflationary gap exists. Assume that the aggregatesupply curve is horizontal so that the change in real GDP arisingfrom a shift of the aggregate demand curve equals the size of theshift of the curve. Calculate both the change in governmentpurchases of goods and services and the change in governmenttransfers necessary to close the gap.

a. Real GDP equals $100 billion, potentialoutput equals $160 billion, and the marginal propensity to consumeis 0.75.

b. Real GDP equals $250 billion, potentialoutput equals $200 billion, and the marginal propensity to consumeis 0.5.

c. Real GDP equals $180 billion, potentialoutput equals $100 billion, and the marginal propensity to consumeis 0.8.

Explanation / Answer

If the size of the shiftequals the size of the curve. Take 1/1-MPC=4 for SSM and STM=-3. Dived 60/4-15 billion. STM=60b/-3=20B. 15B spending increaseand 20 B decrease.

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