11-7-07 - -suppose G increases-then By equation(1 Y...

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-In Short Run, Wages are sticky -Keynesians view economic fluctuations as the result of shifts in AD “supply side” “trickle down” -both are opposite of Keynesian -suppose AD increases -real GDP increases -Also Prices Increase -eventually workers demand wage increase, which will reduce SRAS -suppose AD decreases -real GDP decreases -also Price decreases -so govt must increase spending to increase AD -consider mid 70’s -opec reduced supply of oil to west -this reduced SRAS -real GDP decreases -and price increased “stagflation” -consider very short run when all prices are sticky Let C=consumption I=investment G=govt spending Y=real GDP Y=C+I+G (1) -note when G increases, Y increases -but C depends on Y C=A+BY (2) -B is positive ,so as y increases, c increases
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Unformatted text preview: -suppose G increases-then By equation (1), Y increases-but by equation (2), if Y increases, C increases-by equation (1) if C increases, Y increases again-and so on-economist call this “fredbank”-size of “Keynesian multiplier” depnds on B in equation (2)-b is the “marginal propensity to consume”-MPC-part of the increase in income that is consumed Y C I G AE 1 1 2 1 .5 1 1 2.5 2 1 1 1 3 3 1.5 1 1 3.5-assume I and G do not depend on Y-note : MPC = .5-because I and G do not vary with Y, called “autonomons” expenditures-and C as “induced” expenditures Y=C + I+ G-so C + I + G is aggregate expenditures (AE)-in equilibrium, AE=Y...
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