Lecture-6-7

Lecture-6-7 - Lecture 6 and 7: The Aggregate Expenditures...

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Lecture 6 and 7: The Aggregate Expenditures Model Reference - Chapter 7 LEARNING OBJECTIVES 7.1 The factors that determine consumption expenditure and saving. 7.2 The factors that determine investment spending. 7.3 How equilibrium GDP is determined in a closed economy without a government sector. 7.4 What the multiplier is and its effects on changes in equilibrium GDP. 7.5 How adding international trade affects equilibrium output. 7.6 How adding the public sector affects equilibrium output. 7.7 The distinction between equilibrium versus full-employment GDP.
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I. Introduction A. This chapter focuses on the aggregate expenditures model. We use the definitions and facts from previous chapters to shift our study to the analysis of economic performance. The aggregate expenditures model is one tool in this analysis. Recall that “aggregate” means total. B. As explained in this chapter’s Last Word, the model originated with John Maynard Keynes (Pronounced Canes). II. Simplifying Assumptions for the Simple Model A. We assume a “closed economy” with no international trade. B. No Government.
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C. Although both households and businesses save, we assume here that all saving is personal. D. Depreciation and net foreign income are assumed to be zero for simplicity. E. There are two reminders concerning these assumptions. 1. They leave out two key components of aggregate demand (government spending and foreign trade), because they are largely affected by influences outside the domestic market system. 2.With no government or foreign trade, GDP, personal income (PI), and disposable income (DI) are all the same.
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III. The Aggregate Expenditures Model: Consumption and Saving A. The theory assumes that the level of output and employment depend directly on the level of aggregate expenditures. Changes in output reflect changes in aggregate spending. B. Consumption and saving : Since consumption is the largest component of aggregate spending, we analyze its determinants. 1. Disposable income is the most important determinant of consumer spending (see Figure 7-1 in text which presents historical evidence). a. What is not spent is called saving . b.Therefore, DI – C = S or C + I = DI
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2. In Figure 7-1 we see a 45-degree line which represents all points where consumer spending is equal to disposable income; other points represent actual C, DI relationships for each year from 1980-2002. 3. If the actual graph of the relationship between consumption and income is below the 45-degree line, then the difference must represent the amount of income that is saved. 4. The graph illustrates that as disposable income increases both consumption and saving increase. 5. Some conclusions can be drawn: a. Households consume a large portion of their disposable income.
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b. Both consumption and saving are directly related to the level of income. C.
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Lecture-6-7 - Lecture 6 and 7: The Aggregate Expenditures...

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