Chapter 9 Practice Quiz

The Keynesian Model

in Action
1. The net exports line can be
a. positive.
b. negative.
c. zero.
d. any of the above.
ANS:
d. Because net exports equals exports minus imports (X-M), the sign of net exports
depends on the values of X and M.
2. There will be unplanned inventory investment accumulation when
a. aggregate output (real GDP) equals aggregate expenditures.
b. aggregate output (real GDP) exceeds aggregate expenditures.
c. aggregate expenditures exceed aggregate output (real GDP).
d. firms increase output.
ANS:
b. See Exhibit 3 in the text.
3. John Maynard Keynes proposed that the multiplier effect can correct an economic
depression. Based on this theory, an increase in equilibrium output would be created by
an initial
a. increase in investment.
b. increase in government spending.
c. decrease in government spending.
d. both (a) and (b).
e. both (a) and (c).
ANS:
d. A decrease in government spending is multiplied times the spending multiplier and
decreases equilibrium output.
4. The spending multiplier is defined as
a. 1/(1 - marginal propensity to consume).
b. 1/(marginal propensity to consume).
c. 1/(1 - marginal propensity to save).
d. 1/(marginal propensity to consume + marginal propensity to save).

ANS:
a. The spending multiplier is also defined as 1/MPS.
5. If the value of the marginal propensity to consume (MPC) is 0.50, the value of the
spending multiplier is
a. .50.
b. 1.
c. 2.
d. 5.
ANS:
c. Spending multiplier = 1/(1-MPC) = 1/(1-0.5) = 1/0.50 = 1/50/100 = 2.
6. If the marginal propensity to consume (MPC) is 0.80, the value of the spending
multiplier is
a. 2.
b. 5.
c. 8.
d. 10.
ANS:
b. Spending multiplier = 1/(1-MPC = 1/(1-0.80) = 1/20/100 = 5.
7. If the marginal propensity to consume (MPC) is 0.75, a $50 billion decrease in
government spending would cause equilibrium output to
a. increase by $50 billion.
b. decrease by $50 billion.
c. increase by $200 billion.
d. decrease by $200 billion.
ANS:
d. Change in equilibrium output (DY) = spending multiplier x change in government
spending. Rewritten, DY = 1/(1-0.75) x -$50 billion = $200 billion = 4 x - $50 billion.
8. If the marginal propensity to consume (MPC) is 0.90, a $100 billion increase in
planned investment expenditure, other things being equal, will cause an increase in
equilibrium output of
a. $90 billion.
b. $100 billion.
c. $900 billion.
d. $1,000 billion.

ANS:
d. Change in equilibrium output (DY) = spending multiplier x change in investment
expenditure. Rewritten, DY = 1/(1-0.90) x $100 billion = 10 x $100 billion.
9. Keynes criticism of the classical theory was that the Great Depression would not
correct itself. The multiplier effect would restore an economy to full employment if
a. government would follow a least government is the best government policy.
b. government taxes were increased.
c. government spending were increased.
d. government spending were decreased.
ANS:
c. Keynes prescription to cure the Great Depression was for government to play an active
role rather than depend on the classical theory that the price system will eventually
restore full employment.
10. The equilibrium level of real GDP is $1,000 billion, the full employment level of real
GDP is $1,250 billion, and the marginal propensity to consume (MPC) is 0.60. The fullemployment target can be reached if government spending is by
a. $60 billion.
b. $100 billion.
c. $250 billion.
d. held constant.
ANS:
b. Change in real GDP required = spending multiplier x change in government spending
(DG). Rewritten, DG = 1/(1 - 0.60) x ($1,250 - $1,000) DG x 2.5 = $250 DG = $100
billion.

11. In Exhibit 9, the spending multiplier for this economy is equal to

a. 1 2/3.
b. 2 1/2.
c. 3.
d. 5.
ANS:
b. MPC is the slope of the AE curve. Start at $2 trillion on the vertical axis and move $5
trillion on the horizontal grid line and note that the AE line rises $3 trillion. Therefore,
MPC = 3/5. 1/(1-MPC) = 1/(1-3/5) = 1/ 2/5 = 5/2 = 2 1/2.
12. To close the recessionary gap and achieve full-employment real GDP as shown in
Exhibit 9, the government should increase spending by
a. $1.0 trillion.
b. $1.2 trillion.
c. $2.0 trillion.
d. $2.5 trillion.
ANS:
b. Change in government spending (DG) x spending multiplier = change in real GDP
(DY) spending multiplier (SM) = 1/(1-MPC) = 1/(1-3/5) = 1/2/5 = 5/2 DG x 5/2 = $3
trillion DG = 2/5 x $3 trillion DG = 6/5 = $1.2 trillion.

13. To close the recessionary gap and achieve full-employment real GDP as shown in
Exhibit 9, the government should cut taxes by
a. $.60 trillion.
b. $1 trillion.
c. $2 trillion.
d. $3 trillion.
ANS:
c. Change in taxes (DT) x tax multiplier = change in real GDP (DY)
spending multiplier (SM) = 1/(1-MPC) = 1/(1-3/5) = 1/2/5=5/2
tax multiplier = (1-SM) = (1-5/2) = -3/2 DT x -3/2 = $3 trillion
DT = -2/3 x $3 trillion DT = $2 trillion.
14. Using the aggregate expenditures model, assume the aggregate expenditures (AE)
line is above the 45-degree line at full-employment GDP. This vertical distance is called a
(an)
a. inflationary gap.
b. recessionary gap.
c. negative GDP gap.
d. marginal propensity to consume gap.
ANS:
a. To eliminate an inflationary gap, the aggregate expenditures line must be decreased by
the amount of this gap.
15. Use the aggregate expenditures model and assume an economy is in equilibrium at $5
trillion, which is $250 billion above full-employment GDP. If the marginal propensity to
consumer (MPC) is 0.60, full-employment GDP can be reached if government spending
a. decreases by $60 billion.
b. decreases by $100 billion.
c. decreases by $250 billion.
d. is held constant.
ANS:
b. Change in equilibrium output (Y) = spending multiplier x change in government
spending (G). Rewritten, -$250 billion = 1/(1 0.60) x G, or -$250 billion = 5/2 x G,
or G = 2/5 x -$250 billion, or G - $100 billion.