In an open economy, exports rise by Rs 50 crore and, as a result, equilibrium income rises by Rs 125 crore. The marginal propensity to consume is 0.8. What is the marginal propensity to import?
Answer & explanation
Correct answer: option 3
The correct answer is Option (3) → 0.2
The rise in income divided by the rise in exports is the open economy multiplier, 1 ÷ (1 − c + m). Find the multiplier, then take out c.
Given:
ΔX = Rs 50 crore
ΔY = Rs 125 crore
c = 0.8
\( \displaystyle k = \frac{125}{50} = 2.5 \)
\( \displaystyle 1 - c + m = \frac{1}{2.5} = 0.4 \)
\( \displaystyle m = 0.4 - (1 - 0.8) = 0.4 - 0.2 = 0.2 \)
The marginal propensity to import is 0.2.
Option (1) 0.4 — this is 1 ÷ k, which still includes the MPS of 0.2.
NCERT (2026-27): “Determination of Equilibrium Income in Open Economy … From the point of view of our country, foreign income, and therefore exports, are considered exogenous (X = X ). The demand for imports is thus assumed to depend on income and have an autonomous component M = M + mY, where M > 0 is the autonomous component, 0 < m < 1. (6.5) Here m is the marginal propensity to import, the fraction of an extra rupee of income spent on imports, a concept analogous to the marginal propensity to consume. …” “… Since m, the marginal propensity to import, is greater than zero, we get a smaller multiplier in an open economy. …” |