Ch013 - b Chapter 13 Spending and Output in the Short-Run Overview This chapter presents the basic Keynesian model(along with some history of

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1. Chapter 13 Spending and Output in the Short-Run Overview This chapter presents the basic Keynesian model (along with some history of Keynes' life and ideas). It develops the model to describe how recessions and expansions may arise from fluctuations in aggregate spending. It emphasizes a graphical approach to the basic model. The chapter discusses the usefulness of fiscal policy to help stabilize the economy. It also addresses some of the shortcomings of the model presented. And the chapter has appendices that present the algebraic solution of the basic Keynesian model and the multiplier. Core Principles Cost-Benefit Principle - this chapter looks at the costs and benefits of price changes (changes in sales versus menu costs). Prices should be changed if the benefit of doing so outweighs the menu costs associated with making the changes. Important Concepts Covered Menu costs Planned aggregate expenditures Consumption function MPC Autonomous and induced aggregate demand Short-run equilibrium output Income-expenditure multiplier Stabilization policies Expansionary/contractionary policies Automatic stabilizers Wealth effect Answers to Text Questions and Problems Answers to Review Questions 1. In the short run, firms meet demand at pre-set prices. The fact that firms produce to meet demand implies that changes in demand affect output in the short run. 2. Many examples are possible. Goods that are standardized and are bought and sold in large quantities, such as wheat or other commodities, tend to have rapidly 197
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1. adjusting prices, for the reason that the benefits of setting up active auction markets for such goods usually exceeds the costs. Goods such as dresses or skirts, which are not standardized (they vary in size, color, style) and which are usually sold in retail stores one by one, tend to have prices that are changed less frequently. 3. Planned aggregate expenditure (PAE) is total planned spending on final goods and services. It includes consumption spending, investment spending, government purchases of goods and services, and net exports (exports less imports). Changes in output are reflected in changes in income received by producers, which in turn affects consumption spending (through the consumption function). As consumption is part of PAE, changes in output lead to changes in PAE. 4. Planned spending includes planned additions to inventories to firms. If firms’ actual sales differ from what they planned, their additions to inventory will likewise differ from what was planned, and actual spending will differ from planned spending. For example, suppose a firm planned to produce 100 units, sell 90 units to the public, and add 10 units to its inventory. But in fact the firm sells only 80 units and thus must add 20 units to inventory. The firm’s planned inventory investment (a component of investment and thus total spending) was 10 units, but its actual inventory investment was 20 units.
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This note was uploaded on 04/15/2008 for the course ECO 181 taught by Professor Cherry during the Spring '07 term at SUNY Buffalo.

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Ch013 - b Chapter 13 Spending and Output in the Short-Run Overview This chapter presents the basic Keynesian model(along with some history of

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