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19 November, 05:13

The government raises taxes by $100 billion. If the marginal propensity to consume is 0.6, what happens to the following? Do they rise or fall? By what amounts? a. Public saving. b. Private saving.

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  1. 19 November, 05:21
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    (b) Increases by $100 billion.

    (b) Decreases by $40 billion.

    Explanation:

    Given that,

    Taxes rises by the government = $100 billion

    Marginal propensity to consume, MPC = 0.6

    (a) Public savings refers to the savings that is done by the government. It is calculated as the difference between government spending and taxes collected by the government.

    Government spending = $0

    So, the public savings increases by $100 billion.

    (b) Private savings refers to the savings that is done by the households.

    Change in consumption (Falls):

    = MPC * Increase in taxes

    = 0.6 * $100 billion

    = $60 billion

    Private savings:

    = Income - Taxes - Consumption

    = $0 - $100 billion - (-$60 billion)

    = - $100 billion + $60 billion

    = - $40 billion

    Therefore, the private savings decreases by $40 billion.
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