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Answer :
Final answer:
Assuming a 1 trillion decrease in exports, the new GDP would reduce by 5 trillion, leading to an equilibrium GDP of 11 trillion, so none of the options are correct.
Explanation:
If the equilibrium income is currently 16 trillion and the marginal propensity to save (MPS) is 0.2, to understand the effect of a t trillion dollar decrease in exports due to higher tariffs, one must utilize the spending multiplier.
The spending multiplier is the reciprocal of the MPS, which in this case is 1/0.2, or 5. A t trillion decrease in exports will lead to a 5t trillion decrease in the equilibrium GDP due to this spending multiplier effect.
The new equilibrium GDP would therefore be:
16 trillion - 5 trillion = 11 trillion.
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