STUDY UNIT 2

Question 1

what is the formula for the expenditure on GDP?

Answer 1

C + I + G + X – IM

Question 2

What’s the formula for GDE?

Answer 2

C + I + G

Question 3

What’s the difference between GDE and Expenditure on GDP?

Answer 3

Expenditure on GDP includes exports and excludes imports, it is all spending on what we as a
country produce.

Gross Domestic Expenditure total value of spending within the borders of a country, including imports but excluding exports, since spending on exports takes place outside the borders of the country

Question 4

What is a trade balance?

Answer 4

Difference between exports and imports is called the trade balance.

Question 5

what is the consumption formula?

Answer 5

co + c1 YD

Question 6

what are households responsible for?

Answer 6

Households are responsible for consumer spending and a change in their spending
behaviour, even a small one, will result in a change in the demand for goods, output and
income.

Question 7

what are the two parts consumption is made out of?

Answer 7

Consumption is made up of two parts: autonomous consumption and induced
consumption.

Question 8

what is autonomous spending?

Answer 8

Autonomous consumption: co is independent of income (Y) – even if income is zero, people still need to eat! How? By using savings called dissaving or borrowing

Question 9

what is induced consumption?

Answer 9

Induced consumption: c1 YD is that part of consumption that is dependent on income
and the marginal propensity to consume (c1).

Question 10

what is disposable income?

Answer 10

Yd is the income that remains once consumers have received their income from the government after taxes are paid

Question 11

describe the relationship disposable income has with consumption?

Answer 11

when disposable income increases, consumers buy more goods but when disposable income decreases, consumers pay less goods

Question 12

what is the marginal propensity to consume?

Answer 12

Marginal propensity to consume = the portion of household income that is spent on
goods and services. For example, if income increases by R1000, what % of this R1000
will be spent? R1000 x MPC. MPC is always a value between 0 and 1.

Question 13

what is the relationship between consumption, marginal propensity to consume and disposable income?

Answer 13

consumption increases with disposable income but less than one for one

Question 14

what is autonomous consumption affected by?

Answer 14

Autonomous consumption is affected by non-income determinants such as interest
rates, expectations, wealth.

Question 15

what is an exogenous variable?

Answer 15

Exogenous (autonomous) variable is independent from the endogenous variable – the variable we are trying to explain - and while it influences the endogenous variable it is not influenced by it.

Question 16

in the goods model, what us the endogenous variable?

Answer 16

In this model, the main endogenous variable is the level of output and income (Y).

Question 17

in terms of the consumption function, what is the exogenous variable?

Answer 17

In terms of the consumption function, exogenous variables are Autonomous consumption, and the marginal propensity to consume.

Question 18

what shifts the consumption function and what changes the slope of the consumption function?

Answer 18

A change in autonomous consumption shifts the consumption function while a
change in the marginal propensity to consume changes the slope of the consumption function.

Question 19

what are investments?

Answer 19

Investment spending is spending by firms on additions to capital stock with future
profits in mind. Investment does not depend on current income, but rather future
income and is therefore autonomous

Question 20

what is the relationship between interest rates and investment spending?

Answer 20

Inverse relationship between interest rate and level of Investment Spending

Question 21

what’s the relationship between savings and investment?

Answer 21

Savings and investment have a positive relationship

Question 22

what is the investment function?

Answer 22

I = Ī

Question 23

what type of variables are government spending and taxes?

Answer 23

Government spending and taxes are both exogenous variables.

Question 24

diferentiate between budget deficit, surplus and balanced budget

Answer 24

• Budget deficit: G > T
• Budget surplus: G < T
• Balanced budget: G = T

Question 25

when does a trade surplus exist in terms of imports and exports?

Answer 25

if exports exceed imports, a trade surplus exist.

Question 26

who earn income from owning the factors of production?

Answer 26

households

Question 27

what is an equilibrium condition?

Answer 27

All positions where Z = Y [represented by 45° line] i.e. production = demand for goods

Question 28

what is the equilibrium equation?

Answer 28

At equilibrium: Y = c0 + c1(Y-T) + I + G

Question 29

what does demand depend on?

Answer 29

autonomous spending

Question 30

when does an equilibrium output occur?

Answer 30

where production is equals to demand

Question 31

what is the role of inventories?

Answer 31

to produce less or more for producers

Question 32

explain what producers do if there is excess demand

Answer 32

if there is excess demand for goods, producers will respond by increasing their level of production which will cause more factors of production to be employed and income and consumer spending increases

Question 33

use equations that describe excess demand and excess supply

Answer 33

* If Z > Y: Y ↑ → C↑ → Z↑ ==== Excess demand * If Z < Y: Y↓→ C↓→ Z↓ ==== Excess supply

Question 34

Where is excess demand located?

Answer 34

In the graph above, if Y is at any point before Y0, there will be excess demand. This can be seen as any point before Y0, the Z1 curve is higher than the 45-degree line (on the y-axis).

Question 35

where is excess supply located?

Answer 35

Any point after Y0, we can see that the 45-degree line is above the Z1 curve and that means that output Y is greater than Z1 the demand. In this case there will be excess supply.

Question 36

what formula do you use to solve the equilibrium level of output and income?

Answer 36

Y =1/(1 – c) (c0 + Ī + G – cT)

Question 37

explain the term [c0 + Ī + G – cT]

Answer 37

The term [c0 + Ī + G – cT] = autonomous spending and is most likely positive. If Government is running a balanced budget (T = G) and the propensity to consume (c1) is less than 1, then (G c1T) is positive and so is autonomous spending

Question 38

explain the term 1/(1-c)

Answer 38

Looking at 1/1 – c1, because 0 < c1 < 1, then 1/1 – c1 is a number greater than 1. It multiplies autonomous spending and therefore is called the multiplier

Question 39

what does the multiplier imply?

Answer 39

If consumers consume more, i.e. c0 increases by R1 million, the equation tells us that output will increase by more than R1 million. The multiplier equals 1/1 – 0.6 = 2.5, so output increases by R2.5 million.

Question 40

what are the two things needed to reach full employment?

Answer 40

a change in the variables that affect autonomous spending and/or the marginal propensity to consume.

Question 41

what happens when an increase in the marginal propensity to consume increases?

Answer 41

An increase in the marginal propensity to consume leads to a rise in consumer spending, the demand for goods and the equilibrium level of output and income.

Question 42

what happens when there's an increase in autonomous spending?

Answer 42

An increase in autonomous spending causes an increase in the demand for goods, which increases the level of output and income and moves the economy closer to full employment.

Question 43

explain what does an increase in MPC mean in consumption?

Answer 43

This implies that households spend a larger proportion of every additional rand on consumption. The term, c, in our consumption equation is therefore larger and the slope of the consumption curve steeper. Since the slope of the demand for goods curve is determined by the slope of the consumption curve, the slope of the demand for goods curve is steeper.

Question 44

what does a higher c1 mean for the equilibrium level?

Answer 44

Using our equilibrium equation, a higher c1 implies a higher value for 1/1 - c, and the equilibrium level of output and income rises.

Question 45

does a change in taxes affects the equilibrium level and why?

Answer 45

yes it does as it is a component of autonomous spending.

Question 46

explain how investment affect the equilibrium level?

Answer 46

investment forms part of autonomous spending and an increase in investment increases demand of goods and shifts the demand curve upwards

Question 47

explain what happens when the marginal propensity to consume increases?

Answer 47

an increase in marginal propensity to consume implies that households spend a large proportion of of every additional rand on consumption which causes the slope of the consumption curve sleeper

Question 48

what affect does expansionary fiscal policy have on the equilibrium

Answer 48

when government spending increases and/ or taxes decrease, this will have an impact that the budget deficit will increase or decrease e.g G= 400 and T=300 400-300= 100 after implementing expansionary fiscal policy, the budget deficit will be 100

Question 49

what affect does contractionary fiscal policy have on the equilibrium

Answer 49

when government spending reduced and/or taxes increased, this will have an impact that the budget deficit will decrease or budget surplus will increase eg before the implementation of a contractionary fiscal policy, the budget deficit will be: G-T= 400-300= 100 after the implementation of a contractionary fiscal policy, the budget deficit is: G-T= 350-350= 0 The budget deficit decreased by 100 and we have a balanced budget

Question 50

what is full employment?

Answer 50

a situation where all available resources (labour, capital, land and entrepreneurship) are used to produce goods and services. when economists use this term it doesn't mean that no one is unemployed.

Question 51

how much is the level of full employment as compared to the equilibrium level?

Answer 51

the equilibrium level of output and income given the marginal propensity to consume and autonomous spending is at Y0, which is less than the level of full employment YF

Question 52

what is an unemployment/ full employment/ output and income gap?

Answer 52

the distance between the equilibrium level of output and income Y0 and full employment YF.

Question 53

how do you calculate the gap between the equilibrium and the full employment?

Answer 53

Full employment - equilibrium

Question 54

how to calculate an increase in government spending?

Answer 54

the gap/ the multiplier

Question 55

how to calculate taxes?

Answer 55

government spending increase/ marginal propensity to consume

Question 56

what happens to disposable income and consumer spending when taxation decreases?

Answer 56

a decrease in taxation increases disposable income, households increase their consumption spending causing the demand for goods to increase further and a movement closer to full employment takes place.

Question 57

explain what a balanced budget is.

Answer 57

a balanced budget is one where the change in G is equal to the change in T. the reason for this is that the multiplier effect for an increase in government spending is greater than the backwards multiplier

Question 58

how do you calculate the net effect of output and income

Answer 58

figure out the multipler= 1/1-c change in government spending= government spending x multiplier change in taxes= cT(T) net effect= increase( change in G- change in T)

Question 59

what's the value of the multiplier in a balanced budget?

Answer 59

1

Question 60

what happens when savings increases?

Answer 60

consumer spending decreases

Question 61

what are the constraints when using Fiscal policy to increase demand for goods in SA

Answer 61

1. structural unemployment 2. Jobless growth 3. Wage increases 4. Budget deficit constraint 5. Balance of payments constraint.

Question 62

in the formula Y=( c0+ I+ G+ cT) + cY, which one is autonomous spending and which is induced spending?

Answer 62

(c0+I+G+cT) is autonous and cY is induced spending.