CA Foundation · Business Economics · Business Cycles
In the Samuelson-type multiplier-accelerator explanation of cycles, an initial rise in autonomous investment raises income through the multiplier. What then causes the expansion to be reinforced and later to reverse?
Induced investment responding to changes in income drives the cycle. Rising income raises investment through the accelerator, which strengthens income growth through the multiplier. When income growth slows, induced investment falls, pulling income down and reversing the expansion into a contraction.
- AInduced investment responds to the change in income, and slows when income growth slowsCorrect
- BGovernment spending is automatically fixed at zero
- CThe marginal propensity to consume becomes exactly one
- DThe money supply is held constant by law
Explanation
Under the accelerator, induced investment depends on the rate of change of income or output. Rising income raises investment, which raises income further via the multiplier. When income growth slows, induced investment falls in absolute terms, which reduces income and begins the downturn. The other options are not part of the mechanism.
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