Question

If the marginal propensity to consume (MPC) is \(0.6\), find the value of the tax multiplier.

• A. \(0.25\)
• B. \(-0.25\)
• C. \(1.5\)
• D. \(-1.5\)

Hint:

Tax multiplier is always negative: \[ K_T = \frac{-MPC}{1-MPC} \] The negative sign shows the inverse relationship between taxes and income.

Answer 1

The Correct Option is D

Step 1: Understanding the Concept:
The tax multiplier measures the impact of a change in taxes on the equilibrium level of income. It is always negative because an increase in taxes reduces disposable income, which in turn reduces consumption.
Step 2: Key Formula or Approach:
The formula for the tax multiplier ($K_T$) is: \[ K_T = \frac{-MPC}{1 - MPC} \]
Step 3: Detailed Explanation:
Given: $MPC = 0.6$.
Substitute the value into the formula:
\[ K_T = \frac{-0.6}{1 - 0.6} \]
\[ K_T = \frac{-0.6}{0.4} \]
\[ K_T = -1.5 \]
This means that for every 1 unit increase in taxes, the national income will decrease by 1.5 units.
Step 4: Final Answer:
The value of the tax multiplier is $-1.5$.