Unit 5 - The Aggregate
Expenditures model

ASSUMPTIONS AND SIMPLIFICATIONS

Keynes created the aggregate expenditures
model in the middle of the great depression,
hoping to explain both why the great depression
had happened and how it might be ended,

Unplanned inventory adjustments:
To keynes, the great depressions massive
unemployment of labor and capital was caused
by firms reacting in a predictable way to unplanned
increases in inventory levels.

Current Relevance:
The keynesian aggregate expenditures model remains
relevant today because many prices in modern economy
are inflexible downward over relatively short periods of time.

A Stuck price model:
The simplifying assumptions underpinning the
aggregate expenditures model reflect the
economic conditions that prevailed during
the great depression.

A preview:
We will build up the aggregate expenditures model
in stages

CONSUMPTION AND INVESTMENT SCHEDULES

In the private closed economy, the two components
of aggregate expenditures are consumption, C, and
gross investment, Ig, Because we examined the
consumption schedule.

EQUILIBRIUM GDP: C + Ig = GDP

Tabular Analysis

Graphical analysis

Aggregate Expenditures

Equilibrium GDP

Real Domestic output

Disequilibrium

OTHER FEATURES OF EQUILIBRIUM GDP

-Saving and planned investment are equal (S=Ig)
-There are no unplanned changes in inventories,

Saving equals planned investment:
saving is a leakage, or a withdrawal, of
spending from the economy's circular flow
of income and expenditures.
saving causes consumption to be less than
total output or GDP.

No Unplanned Changes in inventories:
Unplanned changes in inventories play a
major role in achieving equilibrium GDP.

CHANGES IN EQUILIBRIUM GDP AND THE MULTIPLIER

Multiplier = Change in real GDP/Initial change in spending

Multiplier = 1/MPS

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ADDING INTERNATIONAL TRADE

Net Exports and Equilibrium GDP:
The aggregate expenditure schedule labelled
C + Ig reflects the private closed economy.
It shows the combined consumption
and gross investment expenditures
occurring at each level of GDP

International economic Linkages:
Our analysis of net exports and real GDP
suggests how circumstances or policies
abroad can effect U.S GDP

The Net export schedule:
A net export schedule lists the amount
of net exports that occurs at each level of GDP

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Exchange rates

A caution on tariffs and devaluation

Prosperity abroad

ADDING THE PUBLIC SECTOR

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Government purchases and equilibrium GDP:
Suppose the government decides to purchase
20 billion dollars of goods and services regardless
of the level of GADP and tax collections

Taxation and Equilibrium GDP:
The government not only spends but also collects taxes.
Suppose it imposes a lump-sum tax, which is a tax of
a constant amount or, more precisely, a tax yielding the same amount of tax revenue at each level of GDP.

EQUILIBRIUM VERSUS FULL-EMPLOYMENT GDP

Inflationary expenditures GDP:
Economists use the term inflationary
expenditure gap to describe the amount by
which an economy's aggregate expenditures at
the full employment level of GDP exceed those
just necessary to achieve the fill-employment level of GDP

Application: The recession of 2007-2009

Recessionary expenditures GAP:
Keynes solution to a recessionary expenditures GDP

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