Chapter 7 - Adding Government and Trade to the Simple Macro Model Flashcards
What is the formula for disposable income (YD)?
YD = (1-t) * Y
Where t is the net tax rate and Y is national income
What is the formula for consumption (C) with taxes?
C = a + b(1-t) * Y
Where a is autonomous consumption and b is MPC
What is the formula for imports (IM)?
IM = mY
Where m is the marginal propensity to import
What is the formula for net exports (NX)?
NX = X - mY
What is the updated aggregate expenditure (AE) function with government and trade?
AE = a + I + G + X - mY + b(1-t) * Y
What is the simplified AE function?
AE = A + zY
Where A = total autonomous expenditure and z = b(1-t) - m
What is the formula for equilibrium national income (Y)?
Y = A/(1-z)
What happens to the multiplier when taxes and imports increase?
It becomes smaller because both act as leakages from the spending cycle.
What is the formula for the multiplier in an open economy with government?
1/(1-b(1-t)+m)
What does an increase in government spending (G) or exports (X) do to the AE curve?
Shifts it upward → increases equilibrium income
What does an increase in the net tax rate (t) or imports (m) do to the AE curve?
Flattens it → decreases equilibrium income.
What is the budget balance formula?
T−G
(Surplus if positive, deficit if negative)
How does fiscal policy affect output?
Changes in G and t shift the AE curve to stabilize GDP.
What’s the difference between autonomous and induced expenditure?
Autonomous: doesn’t depend on income (e.g., G, I, X)
Induced: changes with income (e.g., consumption and imports)
Describe the axes of an AE diagram
Horizontal represents real GDP (Y) and vertical axis represents AE
What function does the 45º line serve in the AE curve graph?
It’s a reference point for determining equilibrium by showing all points where AE = real GDP (Y)
