Question

In the above question, calculate the effect on output of a 10 per cent increase in transfers, and a 10 per cent increase in lump-sum taxes. Compare the effects of the two.

Answer 1

MPC = 0.80

= 20

I = 30

G = 50

TR = 100

ΔTR = 10

Equilibrium level of income

= Rs 940

Change in income = 940 − 900 = Rs 40

Increase in lump-sum tax ΔT =10

Change in Income

= −10 × 4

= −40

From the above results, we can conclude that increase of 10 percent in transfers will raise the income by 40%.

And, increase of 10% in tax will lead to a fall in the income by 40%.