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Macroeconomics > 5- Business Cycles and Aggregate Spending > Flashcards

5- Business Cycles and Aggregate Spending Flashcards

1
Q

Peak definition

A

The top of the cycle ñ productive capacity fully utilised shortages may start to develop.

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2
Q

Recession definition

A
  • Is a downturn in activity - a recession is defined as a fall in real GDP for two successive quarters.
  • Typically incomes and employment levels fall. Profits may also decline as some firms experience financial difficulties.
  • A recession that is deep and long lasting is called a depression.
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3
Q

Trough definition

A

Characterised by high unemployment and low demand in relation to the capacity to produce. Business confidence is low.

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4
Q

Recovery definition

A

Characterised by rising incomes, employment and consumption.
Business expectations become more optimistic and new investment projects are begun.

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5
Q

J.A. Hobson description on cause of recession

A

The cause as over-production due to savings being too high and consumption too low (due to the unequal distribution of incomes, as the rich spent less than
the poor).

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6
Q

Who came up with the short run general theory?

A

Keynes

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7
Q

Macroeconomics short run definition

A

A period in which the economy maintains a deviation from potential output, or a GDP gap. Often associated with the existence of spare capacity or unemployment (output gaps).

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8
Q

Macroeconomics long run definition

A

A period sufficient to allow time for the automatic adjustment mechanisms to return economic activity to our model’s assumed equilibrium after it has been disturbed by an exogenous shock.

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9
Q

Desired spending definition

A

Refers to what people want to spend out of the resources that are at their command.

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10
Q

Aggregate spending (AE) definition

A

Total desired spending on domestically produced goods.
AE= C + I + G + (X-M)

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11
Q

What does national accounts measure?

A

Actual spending in each of the 4 categories: C + I + G + (X-M)

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12
Q

Autonomous/ exogenous spending definition

A

Components of aggregate spending that do not depend on current domestic incomes.
It can change but not in response to changes in income.

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13
Q

Induced/ endogenous spending definition

A

Components of aggregate spending that do change in response to changes in income.

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14
Q

The Consumption Function

A

C = α + bY
α = autonomous consumption
b= marginal propensity to consume
Y= income

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15
Q

What is consumption spending mainly affected by?

A

Disposable income

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16
Q

Average propensity to consume (APC)

A

Total consumption spending divided by total disposable income.
APC= C/Y(d)

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17
Q

Relationship between APC and disposable income

A

APC falls as disposable income rises.

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18
Q

Marginal Propensity to Consume (MPC)

A

Relates the change in consumption to the change in disposable income that brought it about.
MPC= Change in consumption/ change in disposable income

19
Q

MPC in Keynesian consumption function

A

Constant

20
Q

Summary of short-term properties of consumption function

A
  • There is a break-even level of income at which APC equals unity. Below this level, consumption exceeds income, so households use savings or borrow. When APC>1- there are positive savings.
  • MPC between 0 and 1.
21
Q

The role of the 45 degree line

A
  • To help locate the breakeven level at which consumption spending = disposable income on desired consumption against real disposable income curve.
  • To locate equilibrium of AE and GDP.
22
Q

Savings Function

A

S = Y -C
S= -α + (1-b)Y
α = autonomous saving
(1-b)= MPS

23
Q

Average propensity to save (APS)

A

The proportion of disposable income that households want to save.
APS = S/Y(d)

24
Q

Marginal propensity to save (MPS)

A

Relates the change in total desired saving to the change in disposable income that brought it about.
MPS= change in S/ change in Y(d)

25
Q

Sum of APC and APS

A

APC + APS =1

26
Q

Sum of MPC and MPS

A

MPC + MPS =1

27
Q

Where is the breakeven level of income on consumption function

A

Desired consumption equals disposable income, desired saving is zero.

28
Q

Wealth and the consumption function

A
  • Higher levels of wealth= higher consumption
  • Less disposable income needs to be saved for the future.
  • Increases the incentive to save.
  • Shifts consumption function upwards.
29
Q

Interest rate and consumption function

A
  • Higher interest rate= less spending
  • High rates encourages saving, discourages borrowing.
  • Mortgage payments will increase for those on variable mortgage rates.
  • Lower assets values- less wealth- less consumption.
  • Higher interest rate lowers autonomous consumption.
30
Q

3 major forms of investment

A
  • Investment in inventories
  • Investment in residential housing construction
  • Investment in business fixed capital
31
Q

At this stage, how do we treat investment?

A

As exogenous

32
Q

Investment volatility?

A

Most volatile part of GDP

33
Q

Aggregate spending function

A
  • Relates the level of desired real spending to the level of real GDP.
  • AE (agg. spending) = C + I
34
Q

The Propensity to Spend out of GDP

A
  • The fraction of any increment to GDP that will be spent on purchasing domestic output.
  • Symbol of c.
  • = change in aggregate spending/ change in income
35
Q

Slope of AE function

A

The propensity to spend out of GDP

36
Q

The marginal propensity not to spend

A
  • The fraction of any increment to GDP that doesn’t add to the desired aggregate spending.
  • Denoted as (1-c)
37
Q

What does the marginal propensity to spend and the marginal propensity not to spend equal in a simple model?

A

MPC = c
MPS = (1-c)

38
Q

Where is GDP equilibrium

A

Where aggregate desired spending (AE) equals national output.

39
Q

What happens when AE>Y?

A
  • Firms incentivised to increase current output and therefore GDP rises.
40
Q

What happens when AE<Y?

A
  • Firms incentivised to cut current output and therefore GDP falls.
41
Q

Effect of AE=GDP

A
  • Purchasers can fufill their spending plans without causing inventories to change.
  • There’s incentive for firms to alter output.
  • Everyone wishes to purchase an equal amount to what is being produced.
42
Q

When is there equilibrium GDP graphically?

A
  • Where AE curve meet 45 degree line
  • Where S=I
43
Q

How to graphically (AE) show changes in GDP?

A

Shifts in AE

44
Q

2 types of shifts of AE

A

1) Parallel shift- same addition to spending occurs at all levels of income.
2) AE slope change- if there is a change in the propensity to spend out of GDP.

Macroeconomics (14 decks)

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