Chapter 6 - The Simplest Short Run Macro System Flashcards
What is the equation for actual national income from the expenditure side?
GDP = Ca + Ia + Ga + (Xa - IMa)
What is the equation for desired aggregate expenditure?
AE = C + I + G + (X - IM)
National income accounts measure ____________ expenditures in four broad categories.
National income theory deals with _________ expenditure in the same four categories.
actual
desired
How is the consumption function written?
C = a + bY
What are the components in
C = a + bY
(a, bY, and b)
a: autonomous part of consumption
bY: induced part of consumption
b: slope
a: vertical intercept
In this chapter, investment is treated as an autonomous or induced expenditure?
Autonomous
In the simple model, the MPD is the same as the MPC because
Only consumption varies with aggregate income
If there were a sudden decrease in desired autonomous consumption expenditure, inventories would ______
Firms would _____ their production (output)
Accumulate
Reduce
(// shift downwards)
What are the APC and MPC equations?
APC = C / Yd
MPD = ΔC / ΔYd
What is desired expenditure?
What people desire to spend out of the resources they actually have, given their real-world constraints of income and market prices
What is the difference between autonomous and induced expenditures?
Autonomous do NOT depend on national income
Induced change in response to changes in national income
What are the 3 assumptions we make in the simple macro model?
- Closed economy (No trade)
- No government = no taxes
- Price level is constant
What is disposable income (2 equations)
Yd = Savings + Consumption
or
Yd = Income - Taxes
What is disposable income (definition)
Income available to households after paying taxes
(in the simple model, Yd = national income because there are no taxes)
What are the 4 determinants of desired consumption?
Disposable income
Wealth
Interest rates
Expectations about the future
Changes in disposable income leads to what type of change for the consumption function?
Movements along the line
True or false
Changes in wealth, interest rates, and expectations about the future shift the consumption function?
True
The consumption function shifts upwards if:
Wealth __________,
Interest rates __________,
or
Expectations about the future _________
increases
decreases
increases (optimism)
If wealth increases, interest rates decrease, or there’s optimism about the future, what happens to the saving function?
It shifts downwards
Why does a fall in interest rates leads to more consumption?
Because it reduces the cost of borrowing
What are the 3 categories of investment?
Inventory
Residential construction
New plant and equipment (Capital goods)
What are the 3 important determinants of desired investment expenditure
- The real interest rate
- Change in the level of sales
- Business confidence
A high real interest rate reduces or increases desired investment?
It reduces it because it makes investment expenditure cost more
The higher the average level of sales, the ______ the desired stock of inventories
larger
Optimism about the future leads to _______ desired investment
more
Does GDP affect desired investment? Why?
No because most investment takes time to complete and is long-lasting, thus current GDP is not really important
What is the assumption regarding desired investment?
It’s autonomous with respect to national income
BUT
we are not assuming it is constant
What does the aggregate expenditure shows?
The desired spending in the economy for any given level of actual national income
If desired aggregate expenditure is greater than actual national income, what happens to inventory and the firms’ output
inventories are falling
the firms produce more
When is national income at equilibrium?
When
AE = Actual national income
What is the autonomous expenditure if:
C = 400 + 0.8Yd
I = 400
$800
Why is disposable income equal to national income in this model?
Because there is no government and therefore no taxation
What are the equations for the multiplier?
Multiplier =
ΔY / Δ autonomous expenditure
=
(1 / (1 - MPD) )
The magnitude of the change in national income is measured by _____
The multiplier
The larger the MPD, the ______ the multiplier
larger
What happens to which function as consumers spend as stock market soars?
The consumption function shifts up
What happens to which function as optimism about vaccine roll-out leads to surge in business investment
The investment function shifts up
According to the Paradox of Thrift, attempts to change the level of saving will __________ ?
cause the aggregate saving line to shift up, lowering equilibrium national income
As the MPD becomes larger, the AE curve becomes _______
steeper
What is the self-fulfilling prophecy
Expectations about a healthy economy can actually produce a healthy economy
What is the most important determinant of consumption?
Current disposable income
When (desired) aggregate expenditure is greater than GDP, inventories will __________ and GDP and total employment will __________?
Fall
Increase
What happens when there is an unplanned decrease in inventories?
Actual investment is less than planned investment.
At the break-even level of disposable income, desired consumption __________ disposable income and desired saving is __________
equals,
zero
What is the average propensity to consume formula?
C / Yd
Consumption / Disposable income
How can you find the MPC on a consumption function?
∆C / ∆Yd
Why is APC + APS = 1?
Because all disposable income is either spent or saved
If you are given a graph with the investment and the saving function, at what point will the equilibrium level of income be?
At the intersection of investment and savings
(I = S)
