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# Ch 9. The Aggregate Expenditures Model - PowerPoint PPT Presentation

Ch 9. The Aggregate Expenditures Model. (a) The investment demand curve and (b) the investment schedule. The level of investment spending (\$20 bill) is determined by the interest rate (8%) together with the investment demand curve (ID).

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### Ch 9. The Aggregate Expenditures Model

• The level of investment spending (\$20 bill) is determined by the interest rate (8%)

• together with the investment demand curve (ID).

• The investment schedule (Ig) relates the amount of investment (\$20 bill) determined

• in (a) to the various levels of GDP (set amount/constant).

A. Equilibrium GDP: (GDP = C + Ig). Savings equals planned investment (S=Ig).

B. Planned investment – amount firms plan to invest.

C. Investment schedule – shows amount firms plan to invest at possible values of real GDP.

D. Aggregate expenditures schedule – shows total amount spent on final goods/ services at diff. levels of real GDP.

Aggregate Expenditure planned investment (S=Ig). is a measure of national income. It is a way to measure the totalGDP 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 employ-

ment depend directly on the level of aggregate expenditures (total spending).

Keynes ideas, called planned investment (S=Ig).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.

 John Maynard Keynes – British economist favored the heavy gov’t spending during a recession, even running a deficit, to jumpstart the economy (Keynesian economics).

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.

(2) planned investment (S=Ig).

Real

Domestic

Output

(and

Income)

(GDP=DI)

(3)

Con-

sump-

tion

(C)

(7)

Unplanned

Changes in

Inventories

(+ or -)

(8)

Tendency of

Employment

Output and

Income

(5)

Investment

(Ig)

(6)

Aggregate

Expenditures

(C+Ig)

(1)

Employ-

ment

(4)

Saving (S)

(1-2)

Consumption and Investment

…in Billions of Dollars

• 40

• 45

• 50

• 55

• 60

• 65

• 70

• 75

• 80

• 85

\$370

390

410

430

450

470

490

510

530

550

\$375

390

405

420

435

450

465

480

495

510

\$-5

0

5

10

15

20

25

30

35

40

20

20

20

20

20

20

20

20

20

20

\$395

410

425

440

455

470

485

500

515

530

\$-25

-20

-15

-10

-5

0

+5

+10

+15

+20

Increase

Increase

Increase

Increase

Increase

Equilibrium

Decrease

Decrease

Decrease

Decrease

The table

shows 10

possible

levels of

production.

Graphically…

530 planned investment (S=Ig).

510

490

470

450

430

410

390

370

Consumption (billions of dollars)

45°

• 390 410 430 450 470 490 510 530 550

Disposable Income (billions of dollars)

Consumption and Investment

Equilibrium GDP

C + Ig

(C + Ig = GDP)

C

Equilibrium

Point

Aggregate

Expenditures

The

Keynesian

Model

(Keynes

Cross)

showing the

Aggregate

Expenditure

Model

Ig = \$20 Billion

C = \$450 Billion

Equilibrium GDP: C + Ig = GDP planned investment (S=Ig).

• 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 planned investment (S=Ig).

Changes in the equilibrium GDP caused by shifts in the aggregate expenditures schedule and the investment schedule

Equilibrium point

C+Ig

C

Increase in

investment

The

Keynes

Cross

showing the

Aggregate

Expenditure

Model

470

Aggregate expenditures

Decrease in

investment

450

470

450

Real domestic product, GDP

E. Multiplier: planned investment (S=Ig).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

Net exports and planned investment (S=Ig).

equilibrium GDP

Net exports are

exports minus imports.

c planned investment (S=Ig).

Gov’t spending and equilibrium GDP

Gov’t spending

increase

b

d

e

a

Aggregate expenditures

Real GDP

Point ‘a’

-- In a private closed economy, the APC is equal to 1 at what income level?

-- If AE are Ca+Ig+Xn+G, the amount of savings at \$225 are what points?

Points ‘c and d”

550 planned investment (S=Ig).

530

510

490

470

Aggregate Expenditures

(billions of dollars)

45°

490 510 530

Real GDP (billions of dollars)

Equilibrium Versus Full-Employment GDP

Recessionary Expenditure Gap

AE0

\$5 Billion

Gap Yields

\$20 Billion

GDP

Change

AE1

Recessionary

Expenditure

Gap = \$5 Billion

Full

Employment

550 planned investment (S=Ig).

530

510

490

470

Aggregate Expenditures

(billions of dollars)

45°

490 510 530

Real GDP (billions of dollars)

Equilibrium Versus Full-Employment GDP

Inflationary Expenditure Gap

AE2

AE0

Inflationary

Expenditure

Gap = \$5 Billion

\$5 Billion

Gap Yields

\$20 Billion

GDP

Change

Full

Employment

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 full- employment.

Opposites