Question

Suppose the following list of events describes all of the economic activity resulting from an increase in government spending. Suppose that at each step after the initial one, the marginal propensity to consume is 0. 75, and there are no taxes Step 0. The government spends $5,000 on meat to host a very large dinner for foreign diplomats.

Step A. The butcher takes the income daughter. Arned by selling the meat, saves some, and spends the rest on a wedding cake for his

Step B. The baker who produced the wedding cake saves some of her earnings and uses the rest to purchase beautiful candlesticks as gifts for all of her friends.

Step C. The local candlestick maker saves some of his revenue for retirement and spends the rest on building materials to improve his house.

Instructions:

Modify the settings in the interactive tool to represent this event. Then click "Spending Rounds" and use the table to answer the following questions. Round answers to the nearest cent, if necessary

1. How much does the baker earn for selling the cake? $

2. How much does the baker spend on candlesticks? $

Answer 1

1. The amount that the baker earns for selling the cake is $3,750 based on the butcher's marginal propensity to consume of 0.75 of his income ($5,000 x 0.75).

2. The amount that the baker spends on candlestick is $2,812.50 based on the candlestick maker's marginal propensity to consume 0.75 of his income ($3,750 x 0.75).

What is the marginal propensity to consume?

Economics defines the marginal propensity to consume (MPC) as the proportion of the income that a consumer spends on the immediate consumption of goods and services.

The marginal propensity to consume (MPC) is the opposite of the marginal propensity to save (MPS).  Both economic indexes describe how consumption or savings change, given some changes in income.

Data and Calculations:

Marginal Propensity to Consume = 0.75

Taxes = 0%

Government spending on meat = $5,000

Step A:

Amount spent by butcher on daughter's wedding cake = $3,750 ($5,000 x 0.75).

Step B:

Amount spent on the purchase of beautiful candlesticks by baker for producing the wedding cake = $2,812.50 ($3,750 x 0.75).

Step C:
Amount spent by the local candlestick maker on building materials to improve his house = $2,109.38 ($2,812.50 x 0.75).

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