Knetwit #2

# Knetwit #2 - NOTES MACROECONOMICS TEST#2 Lecture Demand...

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1 NOTES: MACROECONOMICS TEST #2 Lecture: 9/18/07 · Demand side - Expenditure = Z= C + I + G + X-IM - Equilibrium is when production = expenditure - Taxes change income but not disposable income Chapter 9 Notes: n Equilibrium- refers to a situation in which neither consumers nor firms have any incentive to change their behavior. They are content to continue with things as they are. The equilibrium level of GDP on the demand side cannot be one at which total spending exceeds output because firms will notice that they are depleting their inventory stocks. Firms may first decide to increase production sufficiently to meet the higher demand. Later they may decide to raise prices. The equilibrium level of GDP on the demand side cannot be one at which total spending is less than output, because firms will not allow inventories to pile up. They may decide to decrease production, or they may decide to cut prices in order to stimulate demand. The equilibrium level of GDP on the demand side is the level at which total spending equals production. In such a situation, firms find their inventories remaining at desired levels, so they have no incentive to change output or prices. n Expenditure schedule- shows the relationship between national income and total spending. n Induced investment- the part of investment spending that rises when GDP rises and falls when GDP falls. Ø Equilibrium GDP: Y = C + I + G + (X – IM) n Income-expenditure diagram- plots total real expenditure(on the vertical) against real income(on the horizontal). The 45 degree line marks off points where income and expenditure are equal. Higher prices decrease the demand for goods and services because they erode the purchasing power of consumer wealth. Conversely, lower prices increase the demand for goods and services by enhancing the purchasing power of consumer wealth. A higher price level leads to lower real wealth and therefore to less spending at any given level of real income. Thus, a higher price level leads to a lower consumption function and a lower price level leads to a higher consumption function. (figure 4) p. 180 A rise in the price level leads to a lower equilibrium level of real aggregate quantity demanded. This relationship between the price level and real GDP is what we called the demand curve in earlier chapters. It comes directly from the 45 degree line diagrams. (figure 5 and 6) p. 181 An income-expenditure diagram like Figure 3 can be drawn only for a specific price level. At different price levels, the C + I + G + (X – IM) schedule will be different and the equilibrium quantity of GDP demanded will also differ. (p.182) n Recessionary Gap- the amount by which the equilibrium level of real GDP exceeds the full-employment level of GDP. n

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Knetwit #2 - NOTES MACROECONOMICS TEST#2 Lecture Demand...

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