C hapter 22
Download
1 / 75

C hapter 22 - PowerPoint PPT Presentation


  • 158 Views
  • Updated On :

C hapter 22. Equilibrium National Income. Economic Principles. Aggregate expenditure The equilibrium level of national income The relationship between saving and investment The income multiplier. Economic Principles. The relationship between aggregate expenditure and aggregate demand

loader
I am the owner, or an agent authorized to act on behalf of the owner, of the copyrighted work described.
capcha
Download Presentation

PowerPoint Slideshow about 'C hapter 22' - ronat


An Image/Link below is provided (as is) to download presentation

Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author.While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server.


- - - - - - - - - - - - - - - - - - - - - - - - - - E N D - - - - - - - - - - - - - - - - - - - - - - - - - -
Presentation Transcript
C hapter 22 l.jpg

Chapter 22

Equilibrium National Income


Economic principles l.jpg
Economic Principles

  • Aggregate expenditure

  • The equilibrium level of national income

  • The relationship between saving and investment

  • The income multiplier

Gottheil - Principles of Economics, 4e


Economic principles3 l.jpg
Economic Principles

  • The relationship between aggregate expenditure and aggregate demand

  • The paradox of thrift

Gottheil - Principles of Economics, 4e


Equilibrium national income l.jpg
Equilibrium National Income

Equilibrium price is determined by the equal contribution of both demand and costs of production. In particular, it is their interaction that determines equilibrium price.

Gottheil - Principles of Economics, 4e


Equilibrium national income5 l.jpg
Equilibrium National Income

Similarly, the interaction of aggregate expenditure and aggregate supply contribute to equilibrium national income. In this case, however, aggregate expenditure plays a stronger role than aggregate supply.

Gottheil - Principles of Economics, 4e


Interaction between consumers and producers l.jpg
Interaction Between Consumers and Producers

Aggregate expenditure

  • Spending by consumers on consumption goods, spending by businesses on investment goods, spending by government, and spending by foreigners on net exports.

Gottheil - Principles of Economics, 4e


Interaction between consumers and producers7 l.jpg
Interaction Between Consumers and Producers

Recall that the amount of consumer income spent on consumption and saving is represented by:

Y = C + S

Gottheil - Principles of Economics, 4e


Interaction between consumers and producers8 l.jpg
Interaction Between Consumers and Producers

And recall that the amount of production goods and investment goods produced by producers is represented by:

Y = C + Ii

where the subscript i indicates intended as distinct from actual.


Interaction between consumers and producers9 l.jpg
Interaction Between Consumers and Producers

If, by chance, what producers intend to produce for consumption turns out to be precisely what consumers intend to consume, the match between intended investment and savings is written as:

Ii = S

Gottheil - Principles of Economics, 4e


Interaction between consumers and producers10 l.jpg
Interaction Between Consumers and Producers

The I = S equation describes the economy in macroequilibrium. No excess demand or supply exists. Aggregate expenditure equal aggregate supply.

Gottheil - Principles of Economics, 4e


The economy moves toward equilibrium l.jpg
The Economy Moves Toward Equilibrium

The national economy, if not already in equilibrium, is always moving toward it.

Gottheil - Principles of Economics, 4e


The economy moves toward equilibrium12 l.jpg
The Economy Moves Toward Equilibrium

Equilibrium level of national income

  • C + Ii = C + S, where saving equals intended investment.

Gottheil - Principles of Economics, 4e


The economy moves toward equilibrium13 l.jpg
The Economy Moves Toward Equilibrium

Unwanted inventories

  • Goods produced for consumption that remain unsold.

Gottheil - Principles of Economics, 4e


The economy moves toward equilibrium14 l.jpg
The Economy Moves Toward Equilibrium

Actual investment (Ia)

  • Investment spending that producers actually make – that is, intended investment (investment spending that producers intend to undertake), plus or minus unintended changes in inventories.

Gottheil - Principles of Economics, 4e


Slide15 l.jpg

EXHIBIT 1 CONSUMERS’ AND PRODUCERS’ INTENTIONS AND ACTIVITIES, BY STAGES, WHEN Y = $900 BILLION

Gottheil - Principles of Economics, 4e


Exhibit 1 consumers and producers intentions and activities by stages when y 900 billion l.jpg
Exhibit 1: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $900 Billion

Suppose the economy is at Y = $900 billion, autonomous consumption = $60 billion, MPC = 0.80 and producers’ intended investment is $100 billion.

Gottheil - Principles of Economics, 4e


Exhibit 1 consumers and producers intentions and activities by stages when y 900 billion17 l.jpg
Exhibit 1: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $900 Billion

1. What are consumers’ consumption expenditures and savings in Exhibit 1?

  • If Y = C + S and C = a + bY, then consumption expenditures (C) = $60 billion + 0.8 ($900 billion) = $780 billion.

Gottheil - Principles of Economics, 4e


Exhibit 1 consumers and producers intentions and activities by stages when y 900 billion18 l.jpg
Exhibit 1: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $900 Billion

1. What are consumers’ consumption expenditures and saving in Exhibit 1?

  • If S = Y – C, then saving (S) = $900 billion - $780 billion = $120 billion.

Gottheil - Principles of Economics, 4e


Exhibit 1 consumers and producers intentions and activities by stages when y 900 billion19 l.jpg
Exhibit 1: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $900 Billion

2. What is intended production by producers?

  • If C = Y - Iiand Ii= $100 billion, thenintended production= $900 billion - $100 billion = $800 billion.

Gottheil - Principles of Economics, 4e


Exhibit 1 consumers and producers intentions and activities by stages when y 900 billion20 l.jpg
Exhibit 1: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $900 Billion

3. What is the difference between consumers’ consumption expenditures and producers’ intended production?

  • Producers’ intended production ($800 billion) - consumers’ consumption expenditures ($780 billion) = $20 billion.

Gottheil - Principles of Economics, 4e


Exhibit 1 consumers and producers intentions and activities by stages when y 900 billion21 l.jpg
Exhibit 1: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $900 Billion

3. What is the difference between consumers’ consumption expenditures and producers’ intended production?

  • The $20 billion difference is described as unwanted inventories and must be absorbed as investment.

Gottheil - Principles of Economics, 4e


Exhibit 1 consumers and producers intentions and activities by stages when y 900 billion22 l.jpg
Exhibit 1: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $900 Billion

3. What is the difference between producers’ intended production and consumers’ consumption expenditures?

  • Producers’ actual investment ($120 billion) ends up being greater than what they had intended to invest ($100 billion).

Gottheil - Principles of Economics, 4e


Slide23 l.jpg

EXHIBIT 2 Activities, by Stages, When CONSUMERS’ AND PRODUCERS’ INTENTIONS AND ACTIVITIES, BY STAGES, WHEN Y = $700 BILLION

Gottheil - Principles of Economics, 4e


Exhibit 2 consumers and producers intentions and activities by stages when y 700 billion l.jpg
Exhibit 2: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $700 Billion

Suppose national income changes to Y = $700 billion, but MPC, autonomous consumption and intended investment all remain the same.

Gottheil - Principles of Economics, 4e


Exhibit 2 consumers and producers intentions and activities by stages when y 700 billion25 l.jpg
Exhibit 2: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $700 Billion

1. What are consumers’ consumption expenditures?

  • C = $60 billion + 0.8 ($700 billion) = $620 billion.

Gottheil - Principles of Economics, 4e


Exhibit 2 consumers and producers intentions and activities by stages when y 700 billion26 l.jpg
Exhibit 2: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $700 Billion

2. What is intended production by producers?

  • C = $700 billion - $100 billion = $600 billion.

Gottheil - Principles of Economics, 4e


Exhibit 2 consumers and producers intentions and activities by stages when y 700 billion27 l.jpg
Exhibit 2: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $700 Billion

3. What is the difference between consumers’ consumption expenditures and producers’ intended production?

  • Consumers’ consumption ($620 billion) - producers’ production ($600 billion) = $20 billion.

Gottheil - Principles of Economics, 4e


Exhibit 2 consumers and producers intentions and activities by stages when y 700 billion28 l.jpg
Exhibit 2: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $700 Billion

3. What is the difference between consumers’ consumption expenditures and producers’ intended production?

  • The $20 billion difference must be converted from intended investment to consumption goods to meet demand.

Gottheil - Principles of Economics, 4e


Exhibit 2 consumers and producers intentions and activities by stages when y 700 billion29 l.jpg
Exhibit 2: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $700 Billion

3. What is the difference between consumers’ consumption expenditures and producers’ intended production?

  • Actual investment ends up being less than intended investment.

Gottheil - Principles of Economics, 4e


Slide30 l.jpg

EXHIBIT 3 Activities, by Stages, When CONSUMERS’ AND PRODUCERS’ INTENTIONS AND ACTIVITIES, BY STAGES, WHEN Y = $800 BILLION

Gottheil - Principles of Economics, 4e


Exhibit 3 consumers and producers intentions and activities by stages when y 800 billion l.jpg
Exhibit 3: Consumers’ and Producers’ Intentions and Activities, by Stages, When Y = $800 Billion

What is the difference between production and consumers’ expenditures in Exhibit 3?

  • Production and consumption are equal at $700 billion. The economy is in equilibrium.

Gottheil - Principles of Economics, 4e


Equilibrium national income32 l.jpg
Equilibrium National Income Activities, by Stages, When

Aggregate expenditure curve (AE)

  • A curve that shows the quantity of aggregate expenditures at different levels of national income or GDP.

Gottheil - Principles of Economics, 4e


Equilibrium national income33 l.jpg
Equilibrium National Income Activities, by Stages, When

Aggregate expenditure curve (AE)

  • The intersection of the 45° income curve and AE identifies the economy’s equilibrium position.

Gottheil - Principles of Economics, 4e


Equilibrium national income34 l.jpg
Equilibrium National Income Activities, by Stages, When

  • When Ii > S, producers hire more workers to replace depleted inventories. Y increases and continues to increase until Ii = S.

  • When S > Ii, inventories build up and producers lay off workers. Y decreases until Ii = S.

Gottheil - Principles of Economics, 4e


Slide35 l.jpg

EXHIBIT 4A Activities, by Stages, When THE EQUILIBRIUM LEVEL OF NATIONAL INCOME

Gottheil - Principles of Economics, 4e


Slide36 l.jpg

EXHIBIT 4B Activities, by Stages, When THE EQUILIBRIUM LEVEL OF NATIONAL INCOME

Gottheil - Principles of Economics, 4e


Exhibit 4 the equilibrium level of national income l.jpg
Exhibit 4: The Equilibrium Level of National Income Activities, by Stages, When

At a national income of $700 billion, aggregate expenditure is ____ the national income in panel a of Exhibit 4.

i. Greater than

ii. Less than

Gottheil - Principles of Economics, 4e


Exhibit 4 the equilibrium level of national income38 l.jpg
Exhibit 4: The Equilibrium Level of National Income Activities, by Stages, When

At a national income of $700 billion, aggregate expenditure is ____ the national income in panel a of Exhibit 4.

i. Greater than

ii. Less than

Gottheil - Principles of Economics, 4e


Changes in investment change national income equilibrium l.jpg
Changes in Investment Change National Income Equilibrium Activities, by Stages, When

As long as the consumption function and the investment demand function remain unchanged, there is no reason to suppose that the level of national income would move away from equilibrium.

Gottheil - Principles of Economics, 4e


Changes in investment change national income equilibrium40 l.jpg
Changes in Investment Change National Income Equilibrium Activities, by Stages, When

Functions do change, however.

Gottheil - Principles of Economics, 4e


Slide41 l.jpg

EXHIBIT 5 Activities, by Stages, When CONSUMERS’ AND PRODUCERS’ INTENTIONS AND ACTIVITIES, BY STAGES, WHEN INVESTMENT INCREASES TO $130 BILLION AND Y = $800 BILLION

Gottheil - Principles of Economics, 4e


Slide42 l.jpg
Exhibit 5: Consumers’ and Producers’ Intentions and Activities, by Stages, when Investment Increases to $130 Billion and Y = $800 Billion

What happens to the equilibrium level of national income when intended investment increases in Exhibit 5?

  • When intended investment increases, the supply of consumption goods decreases to $670 billion.

Gottheil - Principles of Economics, 4e


Slide43 l.jpg
Exhibit 5: Consumers’ and Producers’ Intentions and Activities, by Stages, when Investment Increases to $130 Billion and Y = $800 Billion

What happens to the equilibrium level of national income when intended investment increases in Exhibit 5?

  • Consumers’ consumption expenditures remain at $700 billion. Consumers’ demand is greater than producers’ production.

Gottheil - Principles of Economics, 4e


Slide44 l.jpg
Exhibit 5: Consumers’ and Producers’ Intentions and Activities, by Stages, when Investment Increases to $130 Billion and Y = $800 Billion

What happens to the equilibrium level of national income when intended investment increases in Exhibit 5?

  • In an effort to meet consumers’ demand, producers hire more workers and national income increases. The equilibrium also increases.

Gottheil - Principles of Economics, 4e


Slide45 l.jpg

EXHIBIT 6A Activities, by Stages, when Investment Increases to $130 Billion and DERIVING EQUILIBRIUM AT Y = $950 BILLION

Gottheil - Principles of Economics, 4e


Slide46 l.jpg

EXHIBIT 6B Activities, by Stages, when Investment Increases to $130 Billion and DERIVING EQUILIBRIUM AT Y = $950 BILLION

Gottheil - Principles of Economics, 4e


Exhibit 6 deriving equilibrium at y 950 billion l.jpg
Exhibit 6: Deriving Equilibrium at Activities, by Stages, when Investment Increases to $130 Billion and Y = $950 Billion

What is the equilibrium level of national income when intended investment increases to $130 billion in Exhibit 6?

  • The equilibrium level increases to $950 billion, where Ii = S.

Gottheil - Principles of Economics, 4e


Changes in investment change national income equilibrium48 l.jpg
Changes in Investment Change National Income Equilibrium Activities, by Stages, when Investment Increases to $130 Billion and

The formula Y = (a + bY) + Iican be used to calculate equilibrium national income when specific values for autonomous consumption, MPC and intended investment are known.

Gottheil - Principles of Economics, 4e


The income multiplier l.jpg
The Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

While consumption spending, MPC, and autonomous consumption have all remained relatively stable over time, investment spending has been volatile.

Gottheil - Principles of Economics, 4e


The income multiplier50 l.jpg
The Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

Economists identify changes in aggregate expenditure, in particular investment spending, as the key to our understanding of why national income changes.

Gottheil - Principles of Economics, 4e


The income multiplier51 l.jpg
The Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

Income multiplier

  • The multiple by which income changes as a result of a change in aggregate expenditure. It is written as:

  • multiplier = (change in Y)/(change in AE)

Gottheil - Principles of Economics, 4e


The income multiplier52 l.jpg
The Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

The size of the multiplier depends on the marginal propensity to consume. An initial change in investment sets in motion a chain of events that creates a larger change in national income.

Gottheil - Principles of Economics, 4e


The income multiplier53 l.jpg
The Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

For example, suppose a business owner decides to invest $1,000 in a new technology. The producer of the technology receives an increase in income of $1,000. If MPC = 0.80, the technology producer’s consumption spending increases by $800.

Gottheil - Principles of Economics, 4e


The income multiplier54 l.jpg
The Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

Suppose the $800 is then spent on a custom-made water bed. The carpenter that makes the water bed receives $800 of additional income. Based on MPC, we know that she will spend $640 and save the rest. The chain of events continues.

Gottheil - Principles of Economics, 4e


Slide55 l.jpg

EXHIBIT 7 Activities, by Stages, when Investment Increases to $130 Billion and THE MAKING OF THE INCOME MULTIPLIER

Gottheil - Principles of Economics, 4e


Exhibit 7 the making of the income multiplier l.jpg
Exhibit 7: The Making of the Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

The additions to national income in Exhibit 7 become _____ as economic activity progresses through successive rounds.

i. Smaller and smaller

ii. Bigger and bigger

Gottheil - Principles of Economics, 4e


Exhibit 7 the making of the income multiplier57 l.jpg
Exhibit 7: The Making of the Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

The additions to national income in Exhibit 7 become _____ as economic activity progresses through successive rounds.

i. Smaller and smaller. For example, in round 2, $800 is added. In round 3, $640 is added.

ii. Bigger and bigger

Gottheil - Principles of Economics, 4e


The income multiplier58 l.jpg
The Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

The formula to determine the income multiplier is written:

1/(1 - MPC).

Since (1 - MPC) = MPS, the formula can be written:

1/MPS.

Gottheil - Principles of Economics, 4e


The income multiplier59 l.jpg
The Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

For example, for a $1,000 change in investment, when MPC = 0.80, the income multiplier is:

1/(1 - 0.80) = 1/(0.2) = 5.

A $1,000 investment leads to a $5,000 change in national income.

Gottheil - Principles of Economics, 4e


The income multiplier60 l.jpg
The Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

Just as increases in aggregate expenditure stimulate the economy, cuts in aggregate expenditure drag it down.

Gottheil - Principles of Economics, 4e


The income multiplier61 l.jpg
The Income Multiplier Activities, by Stages, when Investment Increases to $130 Billion and

Changes in the price level shift the AE curve, creating changes in the equilibrium level of national income. As the price level decreases, national income increases.

Gottheil - Principles of Economics, 4e


Slide62 l.jpg

EXHIBIT 8 Activities, by Stages, when Investment Increases to $130 Billion and CONVERTING AGGREGATE EXPENDITURE TO AGGREGATE DEMAND


Exhibit 8 converting aggregate expenditure to aggregate demand l.jpg
Exhibit 8: Converting Aggregate Expenditure to Aggregate Demand

What happens to the equilibrium national income when the price level decreases from AE100to AE75?

  • A decrease in the price level leads to an increase in aggregate expenditures and movement downward along the aggregate demand curve. National income increases from $800 billion to $1,000 billion.

Gottheil - Principles of Economics, 4e


Slide64 l.jpg

EXHIBIT 9 DemandTHE MULTIPLIER EFFECT IN THE AE AND AD MODELS OF INCOME DETERMINATION


Exhibit 9 the multiplier effect in the ae and ad models of income determination l.jpg
Exhibit 9: The Multiplier Effect in the DemandAE and AD Models of Income Determination

If aggregate expenditure increases but the price level remains the same, what happens to aggregate demand?

  • Aggregate demand increases, which results in an increase in national income.

Gottheil - Principles of Economics, 4e


The paradox of thrift l.jpg
The Paradox of Thrift Demand

Some people believe that putting a higher percentage of their income into saving will provide greater economic security. This is not necessarily the case, however. By trying to save more, people may actually end up saving less, or at least saving no more.

Gottheil - Principles of Economics, 4e


The paradox of thrift67 l.jpg
The Paradox of Thrift Demand

The paradox of thrift

  • The more people try to save, the more income falls, leaving them with no more and perhaps even less saving.

Gottheil - Principles of Economics, 4e


The paradox of thrift68 l.jpg
The Paradox of Thrift Demand

The intention to save more causes the saving curve to shift upwards. Saving then becomes greater than intended investment (S > Ii). The equilibrium level of national income falls.

Gottheil - Principles of Economics, 4e


The paradox of thrift69 l.jpg
The Paradox of Thrift Demand

  • If the level of intended investment curve is horizontal, then the level of saving remains unchanged.

  • If the intended investment curve is upward sloping, then the level of saving declines.

Gottheil - Principles of Economics, 4e


Slide70 l.jpg

EXHIBIT 10 DemandTHE PARADOX OF THRIFT


Exhibit 10 the paradox of thrift l.jpg
Exhibit 10: The Paradox of Thrift Demand

1. What happens to national income and saving when the saving curve shifts from S to S′ in panel a of Exhibit 10?

  • National income falls from $800 billion to $650 billion. Saving remains unchanged.

Gottheil - Principles of Economics, 4e


Exhibit 10 the paradox of thrift72 l.jpg
Exhibit 10: The Paradox of Thrift Demand

2. What happens to national income and saving in panel b when the saving curve shifts from S to S′?

  • The equilibrium level of national income falls from $800 billion to $550 billion.

Gottheil - Principles of Economics, 4e


Exhibit 10 the paradox of thrift73 l.jpg
Exhibit 10: The Paradox of Thrift Demand

2. What happens to national income and saving in panel b when the saving curve shifts from S to S′?

  • Because the intended investment curve is upward sloping, the shift in the saving curve causes a decline in the level of investment as well.

Gottheil - Principles of Economics, 4e


Exhibit 10 the paradox of thrift74 l.jpg
Exhibit 10: The Paradox of Thrift Demand

2. What happens to national income and saving in panel b when the saving curve shifts from S to S′?

  • Saving falls from $100 billion to $75 billion.

Gottheil - Principles of Economics, 4e


The paradox of thrift75 l.jpg
The Paradox of Thrift Demand

Increased saving is not always detrimental to our economic health. If accompanied by increased investment, increased saving is both inevitable and desirable.

Gottheil - Principles of Economics, 4e