Keynesian Model)

Question 1

What is the basic equilibrium condition in the Keynesian model?

Answer 1

AE = Y, where AE is Aggregate Expenditure and Y is National Income.

Question 2

What are the key assumptions of the simple Keynesian model?

Answer 2

Prices are fixed

Economy has unemployed resources

Output is determined by demand

Closed economy (initially)

Firms produce whatever is demanded

Question 3

What is the consumption function?

Answer 3

‾
C= C +bY

𝐶= autonomous consumption
b = marginal propensity to consume (MPC)
Y = income

Question 4

What is the savings function?

Answer 4

S=(1−b)Y
Where b is the MPC and (1−b) is the MPS.

Question 5

What is the investment function in the basic model?

Answer 5

-
I= I
Investment is autonomous and does not depend on income.

Question 6

How do you find equilibrium income (2-sector model)?

Answer 6

• -
  Y= C + I
  ——–
  1-b

Question 7

What is the Keynesian multiplier (no government)?

Answer 7

k= 1−b
——–
1
​

Question 8

What happens when autonomous investment increases by €1000 and MPC = 0.75?

Answer 8

ΔY=1000× 1
——–
1−0.75 =1000×4=€4000

Question 9

What is the formula for equilibrium income with government?

Answer 9

Y= C+bTR+I+ G
————
1−b(1−t)

Question 10

What is the multiplier with government and taxes?

Answer 10

k= 1
————-
1−b(1−t)

Question 11

What effect do transfer payments (TR) have on income?

Answer 11

They increase disposable income → consumption → aggregate expenditure → equilibrium income

Question 12

What’s the formula for disposable income (Yd)?

Answer 12

Y d=Y+TR−T whereT=tY

Question 13

What causes disequilibrium in the Keynesian model?

Answer 13

When AE ≠ Y:

If AE > Y → inventories fall → firms increase output

If AE < Y → inventories rise → firms reduce output

Question 14

What is the Keynesian explanation for unemployment?

Answer 14

Inadequate demand leads to equilibrium output being below full employment level (Y < Yf).

Question 15

What is the role of fiscal policy in this model?

Answer 15

Used to close output gaps through government spending (G) or transfer payments (TR).

Question 16

What is the effect of imports (open economy) on equilibrium income?

Answer 16

        AE Y=   -----------
   1−b+m Where 𝑚 is the marginal propensity to import. Imports reduce the multiplie

Question 17

Derive the multiplier using the change in income approach

Answer 17

k= ΔA
——–
ΔY
whereAisautonomousexpenditure

Question 18

What does the 45° line represent in the Keynesian cross diagram?

Answer 18

All points where Y = AE — i.e., the economy is in equilibrium.

Question 19

What is autonomous expenditure?

Answer 19

Spending that does not depend on income (e.g. C,I,G)

Question 20

What is the behavioral assumption behind MPC?

Answer 20

Households consume a fraction of additional income