KRUGMAN_WELLS_MACRO_CHAPTER12_APPENDIX

KRUGMAN_WELLS_MACRO_CHAPTER12_APPENDIX - > Chapter 12...

Info iconThis preview shows pages 1–2. Sign up to view the full content.

View Full Document Right Arrow Icon
>> 319 Chapter 12 Appendix: Taxes and the Multiplier In the chapter, we described how taxes reduce the size of the multiplier and act as an automatic stabilizer for the economy. Let’s look a little more closely at the mathemat- ics of how this works. Specifically, let’s assume that the government “captures” a fraction t of any in- crease in GDP in the form of taxes, where t , the tax rate, is a number between 0 and 1. And let’s repeat the exercise we carried out in Chapter 10, where we consider the effects of a $50 billion increase in investment spending. The $50 billion increase in investment spending initially raises GDP by $50 billion (the first round). In the absence of taxes, disposable income would rise by $50 bil- lion. But because part of the rise in GDP is collected in the form of taxes, disposable income only rises by (1 - t ) × $50 billion. The second-round increase in consumer spending, which is equal to the marginal propensity to consume (MPC) multiplied by the rise in disposable income, is MPC × (1 - t ) × $50 billion. This leads to a third- round increase in consumer spending of ( MPC × (1 - t )) × ( MPC × (1 - t )) × $50 billion, and so on. So the total effect on GDP is
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Image of page 2
This is the end of the preview. Sign up to access the rest of the document.

This note was uploaded on 03/17/2009 for the course ECON 102 taught by Professor Erus during the Spring '09 term at Boğaziçi University.

Page1 / 2

KRUGMAN_WELLS_MACRO_CHAPTER12_APPENDIX - > Chapter 12...

This preview shows document pages 1 - 2. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online