Keynsian System

Question 1

What does the consumption function do?

Answer 1

The function for the (C) element of AD, the most important part.

Question 2

What is the consumption function equation?

Answer 2

C= a + bY

Y = output from the production function

b= marginal propensity to consume

a = autonomous consumption variable

Question 3

What is AD driven by in the Keynesian system?

Answer 3

Driven by consumer expectation and past experience. aka “animal spirits”

Question 4

What empiral data represents the expectation of consumer confidence?

Answer 4

The consumer confidence index (CCI)

Question 5

What is the OECD definition of the CCI?

Answer 5

Indication of future household consumption.

Based upon answers regarding expected financial situation

> 100 indications a boost in confidence raising MPC, <100 indicates pessimism lowering MPC

Question 6

What is capacity in the Keynesian system?

Answer 6

Defined as the economy’s ability or potential to produce goods and services

Question 7

When will capacity be utilised?

Answer 7

When businesses expect demand and so they produce their goods

Question 8

What is the caveat for Keynsian equilibrium?

Answer 8

It doesn’t always coincide with full employment

Question 9

Draw the Keynesian cross

Answer 9

ok.

Question 10

What does “investment” mean in macroeconomic theorising?

Answer 10

It means new human capital: better training etc or better physical capital. NOT financial instruments

Question 11

What does the simple multiplier do?

Answer 11

It multiples the effect on AD from an external shock and changes the overall income in an economy

Question 12

What is the equation for the simple multiplier?

Answer 12

1/(1-b) where b is the marginal propensity to consume

Question 13

What is the saving function equation?

Answer 13

S = -a + sY

Y = income
s = marginal propensity to save (1-b)
a= constant of autonomous consumption

Question 14

When is the autonomous consumption constant negative?

Answer 14

When consumption is higher than income

Question 15

What happens to the right of point b on the saving function diagram?

Answer 15

Income exceeds consumption and savings become positive

Question 16

What happens to the left of point b on the saving function diagram?

Answer 16

Income is below consumption and dissaving occurs.

Question 17

How do you show the multiplier effect on the Keynesian cross? Draw it.

Answer 17

Steeper slope of the AD line means a larger multipler

Question 18

What is the multipler effect formula with taxation?

Answer 18

1/(1-b(1-t))

Question 19

What is the multiplier effect formula with imports and taxation?

Answer 19

1/(s+bt+m) where M=mY

Question 20

Draw the graph for the savings function.

Answer 20

ok.

Question 21

In the short run, how is the employment level decided?

Answer 21

Varies directly with the extent to which productive capacity is utilised.

Question 22

What does the AS curve show?

Answer 22

Represents the expected proceeds necessary for entrepreneurs in aggreate to offer a given amount of employment or produce output on a continuing basis

Question 23

What does the AD curve show?

Answer 23

Shows the amount that will be spent for output at each level of income

Question 24

What is the consequence of equilibirum not necessarily meaning full employment?

Answer 24

The economic system is not self-adjusting to full employment. Say’s Law doesn’t hold.

Question 25

What are the two main criticisms of Say’s Law?

Answer 25

General gluts do occur (where supply is way above demand), particular during recessions. (Keynes mentioned this is the Great Depression)

Economic agents may collectively choose to increase the amount of money they hold, thereby reducing demand but not supply.

Question 26

Why does the aggregate supply curve on the Keynesian cross have a gradient of one?

Answer 26

It represents all the points where planned expenditure equals aggregate income.