Download National Income: Where It Comes From and Where It Goes

National Income: Where It
Comes From and Where It Goes
The basic Classical Model of the
economy discussing how much the
economy produces, who gets the income
from production, and how the economy’s
resources are allocated among alternative
uses.
Production Function:
Y = f ( K,L )
The functional relationship given by
technology between a firm’s rates of
input and its physical rates of output
per unit of time
Characteristics of a Production
Function
 Production
refers to the transformation of
inputs into output;
 A production function is a flow concept;
 A production function is a physical,
technological, or engineering concept, and
yet it has an economic dimension to it; and
 In production analysis, factors of production
can be separated into fixed and variable.
Demand for a Factor of
Production
Derived Demand: The demand for a
factor is a result of the demand for the
products the factor helps to produce.
Production Function with One
Variable Input (Labor)
Labor
Output
MPL
MRP
1
6
6
60
2
14
8
80
3
24
10
100
4
32
8
80
5
38
6
60
6
42
4
40
7
44
2
20
8
44
0
0
Who Uses the Economy’s Output
in a Closed Economy?
 Households
purchase some the economy’s
output for consumption, C;
 Business firms and households use some of
the economy’s output for investment, I; and
 Governments buy some of the economy’s
output for public purposes, G.
Who Uses the Economy’s Output
in an Open Economy?
 Households
purchase some the economy’s
output for consumption, C;
 Business firms and households use some of
the economy’s output for investment, I;
 Governments buy some of the economy’s
output for public purposes, G; and
 Foreigners purchase some of the economy’s
output for consumption, X.
Planned Aggregate Expenditures
in an Open Economy
 Consumption
Expenditures
• C = Cd + Cf
 Investment
Expenditures
• I = Id + If
 Government
Expenditures
• G = Gd + Gf
 Foreign
• X
Sector’s Expenditures
Consumption Function
According to Keynes
In the Short Run:
C = f ( YD)
where YD = Y - T
Thus,
C=f(Y-T)
The Keynesian Consumption Function:
C = a + mpc( Y- T )
C = a + mpc(1 - t) Y
Investment Expenditures
Investment (I) is inversely related to the real
interest rate
I=f (r)
where r is the real interest rate.
Government Expenditures
There are two types of government spending:
 Government Purchases of Goods and
Services (G); and
 Government Transfer Payments to Households (TR).
Government purchases of goods and services
account for about 20 percent of GDP in the
United States.
Saving in a Closed Economy
 National
Saving (S): the output that remains
after the demands of households and the
government have been satisfied
Y-C-G
National Saving is the sum of:
 Private Saving: disposable income minus
consumption: Y - T - C
 Public Saving: T - G
Saving in an Open Economy
 National
Saving (S): the output that remains
after the demands of households and the
government have been satisfied
Y - C - G = I + NX
or
S = I + NX
S - I = NX
Net Foreign Investment = Trade Balance