CA Foundation · Business Economics · Determination of National Income
In a closed economy with a government, C = 100 + 0.8Yd, I = ₹200 crore, G = ₹300 crore, and lump-sum tax T = ₹250 crore. If G and T are both raised by ₹100 crore (balanced budget), by how much does equilibrium income change?
Income rises by ₹100 crore. The spending increase of ₹100 crore raises income by 5 × 100 = ₹500 crore, while the tax rise lowers it by 4 × 100 = ₹400 crore. The net effect equals the balanced budget multiplier of one times the change.
- ARises by ₹100 croreCorrect
- BRises by ₹500 crore
- CRises by ₹400 crore
- DDoes not change
Explanation
Government spending multiplier = 1/(1-0.8) = 5, so ΔY from G = 500. Tax multiplier = -0.8/0.2 = -4, so ΔY from T = -400. Net change = 500 - 400 = ₹100 crore, the balanced budget multiplier of 1 times 100. ₹500 crore ignores the tax effect.
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