Download Aggregate Expenditure

Ch 9. The Aggregate
Expenditures Model
(a) The investment demand curve
and (b) the investment schedule
a) The level of investment spending ($20 bill) is determined by the interest rate (8%)
together with the investment demand curve (ID).
b) The investment schedule (Ig) relates the amount of investment ($20 bill) determined
in (a) to the various levels of GDP (set amount/constant).
A.
B.
C.
D.
Equilibrium GDP: (GDP = C + Ig).
Savings equals planned investment
(S=Ig).
Planned investment – amount firms
plan to invest.
Investment schedule – shows amount
firms plan to invest at possible
values of real GDP.
Aggregate expenditures schedule – shows
total amount spent on final goods/
services at diff. levels of real GDP.
Aggregate Expenditure is a measure of national income.
It is a way to measure the total GDP or Gross Domestic
Product (A measure of the level of economic activity). It
is defined as the value of planned goods and services
produced in an economy.
GDP is calculated by the formula C + I + G + NX
 C = Consumption Expenditure (Also written as CE)
 I = Investment (Ip + Iu planned + unplanned)
 G = Government spending
 NX = Net exports (Exports-Imports)
Aggregate Expenditures is defined as C + Ig.
-- John Maynard Keynes (pronounced Caines) developed the Aggregate
Expenditures Model, aka the ‘Keynesian Model’ or ‘Keynes Cross.’
-- The amount of goods & services produced and therefore the level of employment depend directly on the level of aggregate expenditures (total spending).
Keynes ideas, called Keynesian economics,
had a major impact on the Great Depresison and
modern economic / political theory as well as on
many gov’ts' fiscal policies. He advocated
Interventionist gov’t policy, by which the gov’t
would use fiscal and monetary measures to
mitigate the adverse effects of economic
recessions, depressions and booms.
He is one of the fathers of modern
theoretical macroeconomics.
Keynes appeared on Dec 31,
1965 edition of TIME magazine.
Keynes argued that the solution to depression was to stimulate the economy
("inducement to invest") through some combination of two approaches :
 A reduction in interest rates.
 Government investment in infrastructure.
 John Maynard Keynes – British economist favored the heavy gov’t
spending during a recession, even running a deficit, to jumpstart the
economy (Keynesian economics).
Consumption and Investment
(2)
Real
(7)
(8)
Domestic (3)
(5)
(6)
Unplanned Tendency of
Output Con(1)
(4)
Investment Aggregate Changes in Employment
(and sumpEmploy- Income) tion Saving (S)
(Ig)
Expenditures Inventories Output and
ment (GDP=DI) (C)
(1-2)
(C+Ig)
(+ or -)
Income
…in Billions of Dollars
The table
shows 10
possible
levels of
production.
(1) 40
$370
$375
$-5
20
$395
$-25
Increase
(2) 45
390
390
0
20
410
-20
Increase
(3) 50
410
405
5
20
425
-15
Increase
(4) 55
430
420
10
20
440
-10
Increase
(5) 60
450
435
15
20
455
-5
Increase
(6) 65
470
450
20
20
470
0
Equilibrium
(7) 70
490
465
25
20
485
+5
Decrease
(8) 75
510
480
30
20
500
+10
Decrease
(9) 80
530
495
35
20
515
+15
Decrease
(10) 85
550
510
40
20
530
+20
Decrease
Graphically…
Consumption and Investment
Equilibrium GDP
530
(C + Ig = GDP)
The
Keynesian
Model
(Keynes
Cross)
showing the
Aggregate
Expenditure
Model
Consumption (billions of dollars)
510
Equilibrium
Point
490
470
C + Ig
C
Aggregate
Expenditures
450
Ig = $20 Billion
430
410
390
C = $450 Billion
370
45°
370 390 410 430 450 470 490 510 530 550
Disposable Income (billions of dollars)
Equilibrium GDP: C + Ig = GDP



Aggregate expenditures – in a closed economy, AE consists of C (col 3) +
I (col 5) = sum in col 6. Col 2 makes the AE schedule (GDP=DI).
The schedule shows the amount (C+Ig) that will be spent at each
possible output or income level.
Equilibrium GDP where GDP (DI) & AE columns are equal (col. 2 and 6,
are each $470 bill).
Equilibrium Graph
Changes in the equilibrium GDP caused by shifts
in the aggregate expenditures schedule and the
investment schedule
Aggregate expenditures
Equilibrium point
C+Ig
Increase in
investment
470
450
C
●
Decrease in
investment
470
450
Real domestic product, GDP
The
Keynes
Cross
showing the
Aggregate
Expenditure
Model
E.
Multiplier: Δ in output & income
Δ in investment spending
If the amount invested increased by $5 billion, that
increase will shift the graph upward.
 $5 billion Δ in investment spending leads to $20 billion Δ in
output & income (income is Y).
 Multiplier is 4 (= $20/$5).
 MPS is .25


In an open-mixed economy, equilibrium
GDP occurs where: Ca+Ig+Xn+G=GDP
Net exports and
equilibrium GDP
Net exports are
exports minus imports.
Gov’t spending and equilibrium GDP
c
Aggregate expenditures
Gov’t spending
increase
b
a
●
●
d
e
Real GDP
Point ‘a’
-- In a private closed economy, the APC is equal to 1 at what income level?
Points ‘c and d”
-- If AE are Ca+Ig+Xn+G, the amount of savings at $225 are what points?
Equilibrium Versus
Full-Employment GDP
Recessionary Expenditure Gap
Aggregate Expenditures
(billions of dollars)
550
530
510
AE0
AE1
$5 Billion
Gap Yields
$20 Billion
GDP
Change
Recessionary
Expenditure
Gap = $5 Billion
490
Full
Employment
470
45°
490
510
530
Real GDP (billions of dollars)
Equilibrium Versus
Full-Employment GDP
Inflationary Expenditure Gap
AE2
Aggregate Expenditures
(billions of dollars)
550
530
AE0
Inflationary
Expenditure
Gap = $5 Billion
$5 Billion
Gap Yields
$20 Billion
GDP
Change
510
490
Full
Employment
470
45°
490
510
530
Real GDP (billions of dollars)
F.
Lump-sum tax – tax that’s a constant
amount at all levels of GDP.
G.
Recessionary gap – amount the agg
expenditures schedule must shift upward
to increase real GDP to full-employment.
H.
Inflationary gap – amount the agg
expenditures schedule must shift
downward to decrease real GDP to fullemployment.