Consider the economies of Kimberlei and Clarkistan, which are identical except t
ID: 1205457 • Letter: C
Question
Consider the economies of Kimberlei and Clarkistan, which are identical except that the multiplier in Kimberlei is smaller than that in Clarkistan.
This means that Kimberlei's GDP is _______ Clarkistan's GDP to fluctuations in the components of total spending.
A) less sensitive than
B) equally sensitive as
C) more sensitive than
Features of the economy that reduce its sensitivity to shocks are called automatic stabilizers.
Suppose again that the economies of Kimberlei and Clarkistan are identical except that Kimberlei has instituted personal income tax, whereas Clarkistan hasn't.
Clarkistan's economy is (more, less) sensititve to fluctuations in GDP than Kimberlei's economy. This is because the personal income tax has ( increaes or reduced) kimerleis multiplier.
Explanation / Answer
1. A) less sensitive than as Change in GDP = Multiplier X Initial change in spending
When multiplier is less than change in GDP will be less and vice-versa.
2. Clarkistan's economy is more sensititve to fluctuations in GDP than Kimberlei's economy.
Introduction of personal income tax decreases the spending of people as their disposable income decrease. To save their money form leviation of tax, people start saving more this results in an increase in MPS. Increase in MPS decreases the multiplier. So, the personal income tax has reduced kimerleis multiplier.