In the open economy model, other things remaining the same, how many of the following would raise equilibrium income?
(A) A rise in foreign income
(B) A rise in autonomous investment
(C) A fall in government spending
(D) A rise in the autonomous part of consumption
(E) A rise in lump-sum taxes
Answer & explanation
Correct answer: option 2
The correct answer is Option (2) → Three
Equilibrium income is the autonomous expenditure A times the multiplier 1 ÷ (1 − c + m). Anything that raises A raises income.
(A) A rise in foreign income — Raises it. Foreigners buy more of our goods, so exports rise.
(B) A rise in autonomous investment — Raises it. It is part of autonomous demand for domestic output.
(C) A fall in government spending — Does not raise it. Less G lowers autonomous demand, so income falls.
(D) A rise in the autonomous part of consumption — Raises it. \( \bar{C} \) is part of A.
(E) A rise in lump-sum taxes — Does not raise it. Taxes cut disposable income, so consumption, and with it A, falls by c times the rise in taxes.
NCERT (2026-27): “DETERMINATION OF EQUILIBRIUM INCOME IN OPEN ECONOMY … The export of one country is, by definition, the import of another. Thus, our exports would constitute of foreign imports. It would depend on foreign income, Yf , and on R. A rise in Yf will increase foreign demand for our goods, thus leading to higher exports. …” “Y = C + c(Y – T ) + I + G + X – M – mY (6.6) Taking all the autonomous components together as A , we get” “An increase in demand for our exports is an increase in aggregate demand for domestically produced output and will increase demand just as would an increase in government spending or an autonomous increase in investment. …” |