6.2 Equilibrium National Income Flashcards
What is an equilibrum condition?
When something is in equilibrium, there is no tendency for it to change. Any conditions required for something to be in equilibrium are called equilibrium conditions
What is the assumption of “demand determined” mean?
In this chapter and the next, we make an important assumption that influences the nature of equilibrium. In particular, we assume that firms are able and willing to produce any amount of output that is demanded of them and that changes in their production levels do not require a change in their product prices. In this setting, we say that output is demand determined.
When is national income in equilibrium? What is the effect on firms on each side of said equilibrium?
What is one (not the realistic on) possibility that will happen when national income is below the equilibrium?
One possibility is that households and firms will be unable to spend the extra $45 billion that they would like to spend, so lines or waiting lists of unsatisfied customers will appear. These shortages will send a signal to firms that they could increase their sales if they increased their production. When the firms do increase their production, actual national income rises.
What is the more realisitic outcome if national income is below equilibrium?
A more realistic possibility is that all spenders will have their demands satisfied. Since desired expenditure exceeds the actual amount of output, this outcome is possible only if some sales come from the producers’ accumulated inventories. In our example, the fulfillment of desired purchases of $345 billion worth of goods in the face of a current output of only $300 billion will reduce inventories by $45 billion. As long as inventories last, more goods can be sold than are currently being produced. But since firms want to maintain a certain level of inventories, they will eventually increase their production in order to replenish their inventories. Once again, the consequence of each individual firm’s decision to increase production is an increase in actual national income.
In general, what is the result on national income when desired aggregate expenditure exceeds actual income?
For any level of national income at which desired aggregate expenditure exceeds actual income, there will be pressure for national income to rise.
What happens to inventories when desired expenditure is below the national income?
For any level of income at which desired aggregate expenditure is less than actual income, there will be pressure for national income to fall.
Next consider the $900 billion level of actual national income in Table 6-1. At this level of output, desired expenditure on domestically produced goods is only $825 billion. If firms persist in producing $900 billion worth of goods, $75 billion worth will remain unsold. Therefore, inventories will rise. However, firms will not allow inventories of unsold goods to rise indefinitely; sooner or later, they will reduce the level of output to the level of sales. When they reduce their level of output, national income will fall.
What happens when desired aggregate expenditure is equal to actual national income?
At this level, and only at this level, desired aggregate expenditure is equal to actual national income. Purchasers can fulfill their spending plans without causing inventories to change. There is no incentive for firms to alter output. Because the amount that people want to purchase is equal to what is actually being produced, output and income will remain steady; they are in equilibrium.
Where does the equilibrium level of national income occure?
The equilibrium level of national income occurs where desired aggregate expenditure equals actual national income.
How do we find the equilibirum level of income?
When does the AE function shift?
The AE function shifts when one of its components shifts—that is, when there is a shift in the consumption function or in the investment function.
When does both the consumptrion function and th investment function shift?
As we have already mentioned, both the consumption function and the investment function will shift if there is a change in interest rates or expectations about the future state of the economy. A change in household wealth is an additional reason for the consumption function to shift.
What are the two types of shifts in the AE that can occur?
Because any increase in autonomous expenditure shifts the entire AE function upward, the same analysis applies to each of the changes mentioned. Two types of shifts in AE can occur. First, if the same increase in expenditure occurs at all levels of income, the AE function shifts parallel to itself, as shown in part (i) of Figure 6-8. Second, if there is an increase in the marginal propensity to spend, the AE function becomes steeper, as shown in part (ii) of Figure 6-8.
What do upward and downward shifts do to equlibrium income?
Upward shifts in the AE function increase equilibrium income; downward shifts decrease equilibrium income.
What kind of changes can result in a downward shift of the AE function?
What happens to national income if there is a decrease in the amount of consumption or investment expenditure desired at each level of income? These changes shift the AE function downward, as shown in Figure 6-8 by the movement from the dashed AE curve to the solid AE curve.
What is the function for the simple multiplier?
