Question

For a three sector economy the following is given : C= 30+0.75Y, I = 30 , G=40 . Where C= consumption I = investment and G = government expenditure. Find out the equilibrium output level. Find out the value of investment multiplier.

Answer 1

i)Equilibrium output level

$Y=C+I+G$

$Y=30+0.75Y+30+40$

$0.25Y=100$

$Y=\frac{100}{0.25}=400$

ii)Investment Multiplier, $k = \dfrac {∆Y}{∆I}$

It is the ratio of the change in national income induced by a $1 change in investment.

Given the consumption function,

$C = 30 + 0.75Y$

0.75 is the marginal propensity to consume (MPC)

Since, MPC + MPS = 1

=> MPS = 1 - MPC

= 1 - 0.75

= 0.25

Now, $K = \dfrac {∆Y}{∆I} = \dfrac {1}{MPS}$

$= \dfrac {1}{1-0.75}$

$=\dfrac {1}{0.25}$

$= \bold {4}$