If we assume that the planned aggregate expenditure is given by the equation PAE = 960 + 0.8Y so that exogenous expenditure equalled 960, with the multiplier of 5, the 10-unit drop in exogenous expenditure would result in a _____________ in short-run equilibrium output.
Question
If we assume that the planned aggregate expenditure is given by the equation PAE = 960 + 0.8Y so that exogenous expenditure equalled 960, with the multiplier of 5, the 10-unit drop in exogenous expenditure would result in a _____________ in short-run equilibrium output.
Solution
The multiplier effect refers to the increase in final income arising from any new injection of spending. In this case, the multiplier is given as 5.
This means that for every one unit change in exogenous spending, the change in income or output will be 5 times that amount.
So, if exogenous expenditure drops by 10 units, the short-run equilibrium output will drop by 10 units * 5 = 50 units.
Therefore, a 10-unit drop in exogenous expenditure would result in a 50-unit decrease in short-run equilibrium output.
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