Question

Prove using the following information, that open economy multiplier is less than closed economy multiplier.
Consumption (C) = 0.75
Marginal propensity to import (M) = 0.25

Answer 1

Open economy multiplier is less than closed economy multiplier, proved.

Explanation:

Given,

Consumption (C) = 0.75 and Marginal propensity to import (M) = 0.25

In open economy,

Open economy multiplier = $\dfrac{1}{M+C}$

$\dfrac{1}{0.25+0.75}$

$= \dfrac{1}{1}$

= 1

In closed economy,

Closed economy multiplier = $\dfrac{1}{C}$

=  $\dfrac{1}{0.75}$

= 1.33

∵ 1 < 1.33

∴ Open economy multiplier is less than closed economy multiplier.

Hence, it is proved.