Economics unit 8

A reduction in the real interest rate will increase investment spending, other things equal, because firms will make an investment purchase only if the expected return is

greater than or equal to the real interest rate at which it can borrow.

A business is thinking about investing in a new piece of equipment. The expected ________ of return helps the business make the decision about whether or not to invest.

rate

Which of the following two variables change by more than an initial change in spending due to the multiplier effect?

Income Output

Because the fraction of any change in income not consumed is saved, what is the equation that shows this?

MPC + MPS = 1

Following an initial change in spending, the multiplier effect creates a chain of spending in which each successive link, or expenditure, is __________________ the previous link.

fractionally smaller than

A large MPC causes increases in consumption to decline slowly resulting in:

a cumulative large change in income

The fraction of total income that is saved equals the __________ propensity to save.

average

1/MPS is the formula for:

the multiplier

There is a(n) __________ relationship between spending and GDP.

positive

If disposable income increases from $450 to $470 billion and savings increases from $15 to $20 billion, what is the marginal propensity to save (MPS)? Multiple choice question.

0.25 Reason: The marginal propensity to save is calculated as the change in savings (here $5 billion) divided by the change in income (here $20 billion).

Disposable income rises by $20 billion to $40 billion. Households consume $15 billion of the increase and save $5 billion of that income. What is the marginal propensity to consume (MPC)?

0.75 Reason: The MPC is calculated as the change in consumption divided by the change in income. In this example, consumption has increased by $15 billion and disposable income has increased by $20. Hence $15/$20 is .75.

In year 1, Adam earns $1,000 and saves $100. In year 2, Adam gets a $500 raise so that he earns a total of $1,500. Out of that $1,500, he saves $200. What is Adam's MPC out of his $500 raise?

0.80

If a $50 billion initial increase in spending leads to a $250 billion change in real GDP, how big is the multiplier?

5.0

The MPC plus the MPS equals: Multiple choice question.

1

The owner of a manufacturing company is considering whether or not to invest in a new sanding machine that costs $1,000. Net expected revenue after installation of the machine is $1,100. What is the expected rate of return? Multiple choice question.

10% Reason: After subtracting $1,000 (cost of the machine) from $1,100 (net expected revenue), the firm will have a profit of $100. Expected rate of return is $100/$1000=10%

If the marginal propensity to save is 0.25, what is the multiplier?

4 Reason: The multiplier is 1/MPS.

What does the multiplier explain?

An increase or decrease in GDP

What does saving divided by income equal? Multiple choice question.

Average propensity to save (APS)

The fraction of any change in income not consumed is, by definition, the ___________ ___________ to ___________ . This explains why the marginal propensity to consume plus this fraction of any change equals one.

Blank 1: marginal Blank 2: propensity Blank 3: save

The consumption schedule shows the various amounts that households plan to consume at each level of:

Disposable Income

Changes to which of the following lead to the multiplier effect?

Net exports Investment Consumption Government spending

Consumption and disposable income have what kind of relationship?

Positive

1/(1-MPC) is what formula?

The multiplier formula

True or false: The multiplier works both ways. It can explain an increase or decrease in GDP.

True Reason: The multiplier can explain either an increase or a decrease in GDP.

The_________ propensity to consume is the fraction or percentage of total income that is consumed.

average

__________ propensity to save equals saving divided by income.

average

The fraction or percentage of total income that is consumed is called the

average propensity to consume

Total consumption divided by total disposable income equals the

average propensity to consume (APC)

The fraction of total income that is saved is called the: Multiple choice question.

average propensity to save

The sum of the MPC and the MPS must equal 1 because

all additional income must be spent or saved.

The Multiplier equation is

change in real GDP/ Initial change in spending

Average propensity to consume equals total ___________ divided by total disposable income.

consumption

Since disposable income is either consumed or saved, the fraction of any disposable income consumed plus the fraction saved must be ______.

equal to 1 (APC + APS + 1)

If the MPS rises, then the MPC will:

fall.

Real interest rates are rates adjusted for what?

inflation

The multiplier effect

intensifies the effect of a spending change, whether it is an increase or a decrease.

The ________ relationship between interest rates and quantity of investment conforms to the law of demand

inverse, negative, indirect, downward sloping, or downsloping

Expected profits and interest rates are the two basic determinants of _______ spending.

investment

Expected profits and interest rates are the two basic determinants of what?

investment spending

The multiplier will be

larger, the larger the MPC and the smaller the MPS.

In economic terms _______ means "extra" or "a change in"

marginal

The change in consumption divided by the change in income is equal to the ______________ propensity to consume.

marginal

The economic term for "extra" or "a change in" is:

marginal

The ratio of a change in consumption to a change in the income that caused the consumption change is called the

marginal propensity to consume

A large ______ causes increases in consumption to decline slowly resulting in a cumulative large change in income.

marginal propensity to consume (MPC)

A change in saving divided by a change in income is equal to the

marginal propensity to save (MPS)

1/MPS is the formula for the spending ____________

multiplier

A business purchases a new piece of equipment. Another firm earns income from this sale and with this income builds a new factory. The contractor that built the factory earns income and uses the income to take a vacation. The resort earns income from the contractor. This scenario describes the:

multiplier effect

The average propensity to consume and the average propensity to save together equal

one

The marginal propensity to save is equal to a change in _________ divided by a change in income.

saving

The ratio of the vertical change to the horizontal change taking place by moving from one point to another along the line is called what? Multiple choice question.

slope

The economy supports repetitive, continuous flows of ______ and income through which dollars spent by Smith are received as income by Chin and then spent by Chin and received as income by Gonzales, and so on.

spending

As a result of the multiplier effect, a change in ________ ultimately changes output and income by more than the initial change.

spending, expenditures, investment, or consumption

The difference between the MPC and the APC is that

the MPC is the change in consumption divided by the change in income, whereas the APC is total consumption divided by total income.

The inverse relationship between interest rates and quantity of investment conforms to ______.

the law of demand

The nominal interest rate minus the rate of inflation equals what?

the real interest rate