Aggregate Expenditures Model
Keynesian Cross Model
Assumptions and Simplifications
Equilibrium GDP: C + Ig = GDP
Consumption and Investment Schedule
Changes in Equilibrium GDP and the multiplier
Current relevance
Unplanned Inventory adjustments
Stuck-Price Model
Prices are fixed
Firms react predictably to unplanned inventory adjustments
If inventory increase, production will decrease; If inventory decrease, production will increase
Prices in modern economy are inflexible in short run
Government Stimulus Programs
Tax cuts
Government spending increases
Lower interest rates
Example Covid-19
Unexpected decline in spending caused even bigger decline in real DGP
Businesses will produce only a level of output that they think they can profitably sell
Amount of goods and services produces and level of employment depend directly on the level of aggregate expenditures (total spending)
Workers and machinery will idle when there are no markets for their goods/services
Developed during the Great Depresion in the 1930's
2 Components of Aggregate Expenditure
Investment Schedule
Investment demand curve and interest rate
Amounts that firms plan to invest at various possible values of real GDP
Planned Investment
Consumption (C)
Gross Investment (Ig)
Investment plans of businesses VS consumption plans of households
The Multiplier Effect
The initial change in spending can cause a greater change in real output
Real Domestic Output
Equilibrium GDP
Savings and planned investments are equal (S=Ig)
Firms will produce as long as revenue is equal to or exceeds cost of production
Equilibrium output is the output whose production creates total spening just sufficient to produce that output
Total purchased equals total produced
Where the aggregate demand curve intersects the aggregate supply curve C+Ig=GDP
Disequilibrium
When spending/production exceeds GDP
No unplanned changes in inventories
Savings is a leakage/withdrawel of spending
Investment is an injection of spending