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Assume that the full-employment level of output is $600 and the price level associated with full-employment output is 100. Also assume that the economy's current level of output is $550 and at the price level of 100 current aggregate demand is $465. If the government wants to move the economy back to the full-employment level of output and the MPC is 0.9, then it should reduce taxes bya. $135 b. $50 c. $15 d. $5

Answer :

Answer:

option c) $15

Explanation:

Given:

Full-employment level of output = $600

price level associated with full-employment output = 100

Economy's current level of output = $550

Current aggregate demand = $465

MPC = 0.9

Now,

Output shortfall

= Output at full employment level - Current output

= $600 - $465

= $135

Multiplier = [tex]\frac{\textup{1}}{\textup{1-MPC}}[/tex]

= [tex]\frac{\textup{1}}{\textup{1-0.9}}[/tex]  

= 10

Therefore,

Desired fiscal stimulus = Output shortfall / Multiplier

= [tex]\frac{\textup{135}}{\textup{10}}[/tex]

= $13.5

Thus,

Tax cut needed = [tex]\frac{\textup{Desired fiscal stimulus}}{\textup{MPC }}[/tex]

= [tex]\frac{\textup{13.5}}{\textup{0.9}}[/tex]

= $15

Hence,

The government should reduce taxes by option c) $15

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