Macro 2. Tutorial 2.pptx - TU TO R I A L 2 KEYNESIAN MODEL...

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K E Y N E S I A N MO DEL : A S , I S - L M Wednesday , 10 . 00 - 11 . 00 a m TU TO RIA L 2 AINA IZZATI BINTI MOHD ZAKI EIA170008 AIMI NADILA BINTI AHMAD JAFRI EIA170006 AUSVINNA KARISA EIA170711 LEE SO YEON EIA170722 NUR FARIHA BINTI MOHAMMAD AZAHAR EIA170201
1. Discuss the causes of short run fluctuations in economic activity in th e simple Keynesian model . A c c o r d i n g t o t h e K e y n e s , t h e f l u c t u a t i o n s i n e c o n o m i c a c t i v i t y a r e d u e t o t h e f l u c t u a t i o n s i n a g g r e g a t e d e m a n d . F a l l i n A D w i l l c r e a t e t h e c o n d i t i o n s o f r e c e s s i o n o r d e p r e s s i o n . I n v e s t m e n t i s a c o m p o n e n t o f A D a n d m a y b e a f f e c t e d b y t h e i n t e r e s t r a t e c h a n g e s . H i g h e r i n t e r e s t r a t e w i l l r a i s e t h e c o s t o f p u r c h a s e s a n d s h o u l d l o w e r t h e i n v e s t m e n t s p e n d i n g . T h e r e f o r e , p r o p e n s i t y t o c o n s u m e b e i n g m o r e o r l e s s s t a b l e i n t h e s h o r t r u n , f l u c t u a t i o n s i n A D d e p e n d p r i m a r i l y u p o n t h e f l u c t u a t i o n s i n i n v e s t m e n t d e m a n d . G o v e r n m e n t s p e n d i n g w h i c h i s a c o m p o n e n t o f a g g r e g a t e d e m a n d m a y b e a f f e c t e d b y i n t e r e s t r a t e c h a n g e s . H i g h i n t e r e s t r a t e w i l l c a u s e i n c r e a s e i n b o r r o w i n g c o s t a n d d i s c o u r a g e g o v e r n m e n t e x p e n d i t u r e . K e y n e s s h o w s t h a t t h e f u n d a m e n t a l c a u s e o f f l u c t u a t i o n s i n A D a n d h e n c e i n f l u c t u a t i o n s i n e c o n o m i c a c t i v i t y i s t h e d e c r e a s i n g i n i n v e s t m e n t d e m a n d . I n v e s t m e n t d e m a n d i s v e r y u n s t a b l e a n d v o l a t i l e a n d b r i n g s a b o u t b u s i n e s s c y c l e i n e c o n o m y.
. As the interest rate increases (r o to r 1 ), investment decreases (I o to I 1 ). The decreases in investment (ΔI), shifts the AD down from E 0 = C+I o +G o to E 1 = C+I 1 +G o . Income decreases (Y o to Y 1 ).
In simple Keynesian model, the m ain assumptions are: a) D e m a n d creates its o w n supply. This means that Keynes believe that how much number of supply produce there is always number of demands b)Wages, price and interest rate are fixed - all variables are real variables and all changes are in real terms c) The economy has excess production capacity d) The economy is closed - there is no export and im po r t e) There is no retained earnings - all profits are assumed to be distributed as dividends among the shareholders f) Firms are assumed to make no tax payments - all taxes paid by the households The Keynesian m od e l overstates the role of aggregate supply because:

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