L1 Keynesian Cross

Question 1

Know from GDP identity that expenditure=income=output
So A=Y
But for arbitrary level of Y no reason A should equal E
So why do we end up spending a different amount than we planned?

Answer 1

Inventories!
Unsold products ‘bought’ by producing firms
Accumulation and depletion of inventories explains diff between A and E

A

Question 2

Why does fiscal policy have a multiplied effect on Y?

Answer 2

More spending
More disposable income
More consumption
Planned expenditure rising further because of this

Question 3

What is the typical multiplier?

1. What if it’s positive and less than 1?
2. Zero?
3. Negative?

Answer 3

1/1-c it’s positive and greater than 1

1. Consumption and/or investment fall when G rises
2. Y determined by S side alone
3. Y falls when G rises