Download Building the Aggregate Expenditures Model

Building the Aggregate
Expenditures Model
Keynesian Economics
John Maynard Keynes
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British Economist (1883-1946)
Theorized that “Classical Economics” was
plagued by a periodic recession and required
government assistance to help jump start the
economy
Recent resurgence due to the instability and
corruption of 2008
John Maynard Keynes
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General Theory of
Employment
Bretton Woods
conference prior to
WWII gave birth to the
creation of the World
Bank and the I.M.F.
which still exist today
Equilibrium GDP
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Firms look to produce an amount equal to that
of what they believe will be purchased
Aggregate Expenditures schedule depicts these
outputs at various levels
Remember, for this chapter consumption is
directly related to the income level where
investment is not. Investment is planned
regardless of income situation
Disequilibrium
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The economy will work to achieve equilibrium
from either the consumer end or the producer
end, but according to Keynes, requires the
government to intervene and stimulate
aggregate demand.
Other Features
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GDP = Investment + Consumption
Savings represents a leakage from the spending stream
and causes C to be less than GDP
Investment is referred to as an injection
Simplifications
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For this chapter we need to assume the
following:
Aggregate spending only consists of
consumption and investment
GDP = NI = PI = DI
There is no account of government spending or
foreign trade in this chapter for purposes of
simplicity
Consumption & Savings
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Consumption is the largest component of
aggregate expenditures
DI = Consumption + Savings
What is not spent is considered savings
Disposable income has a direct relationship with
both consumption & savings
Consumption & Savings
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Break-even Income – Point at which household
consumption = income
APC – Avg. Propensity to Consume
APS – Avg. Propensity to Save
APC = Consumption / Income
APS = Savings / Income
Marginal Propensities
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MPS – Marginal Propensity to Save
MPC – Marginal Propensity to Consume
Is measured to see how income will change the
amounts that are saved and spent
MPC + MPS always = 1 , APC + APS =1
Non-Income Determinants
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Wealth
Expectations of Future Economic Activity
Taxation
Household Debt
Investment
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Second component of private spending
Investment decision weighs marginal benefit vs.
marginal cost
Rate of return = Benefit
Interest Rate = Cost
Rate of Return = Revenue – Cost
If Real Interest Rate exceeds Rate of Return,
investment should not be made
Investment Data
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Measured with Investment Demand Schedule
Shows inverse relationship between Return and
Interest
Understand reduction of interest rates directly
effects investment
Investment Data
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Shifts in the curve are caused by other factors.
These include:
Capital Goods acquired, maintained, & operated
Business Taxes
Technology
Stock of Capital Goods
Future Expectations
Investment Schedules
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Economists define by determining exactly how
much individual businesses will invest at every
level of GDP or DI.
Assume investment is independent from income
Investment Volatility
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Capital Goods are durable meaning investment
can be postponed
Innovation occurs irregularly
Profits vary considerably
Expectations Change Easily
Equilibrium GDP
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We measure producer output and income by
depicting these graphically
Producers seek to reach equilibrium
It is assumed that income level = output
Investment is independent of income and
planned regardless
C + Ig = GDP (Output)
Equilibrium GDP
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Savings and planned investment are equal
Saving represent a “leakage” in consumption
causing it to be less than GDP
The economy is in never ending state to reach
this equilibrium. The goal is to have Income =
Output. Until that happens, inventories will
always fluctuate based on circumstance.