topic 10: macroecon models

Question 1

factors affecting AD via autonomous consumption

Answer 1

1. changes in expectations of future income
   - expect economy to perform well, expect increase in factor income (greater output of G&S)
   - consumers more willing to consumer
2. changes in wealth
   - more willing to purchase big-ticket items
3. changes in i/r
   - higher i/r, consumers encouraged to save more as i/r which is returns on savings increase. cost of borrowing increase.
   - accompanied by credit crunch where banks slow down lending due to increased risk of default -> difficulty in obtaining funds worsens ability to obtain big-ticket items
   fall in AD
   vs easy credit - bank more willing to lend
4. changes in personal income taxes
   - increase in income tax, fall in disposable income, less willing and able to consume
5. changes in expectations of price levels
   - expect future prices -> bring forward consumption
6. changes in level of savings

Question 2

AD

Answer 2

C+I+G+(X-M)

Question 3

factors shifting AD via investment expenditure

Answer 3

1. changes in i/r
   i/r falls, cost of borrowing falls. there will be more investment projects that will earn a return as high as the i/r incurred in using borrowed funds, increase profitability, firms more willing to invest
2. business confidence and expectations
   - expect higher rate of return, project increase in profitability
3. cost of capital goods
4. govt policies
   - corporate tax rates increase, post-tax profits fall
5. changes in tech

Question 4

factors shifting AD via govt expenditure

Answer 4

changes in political/econ. priorities

*transfer payments (welfare aid/ subsidies) affect AD via changes in C and I, not G

Question 5

factors shifting AD via net exports

Answer 5

1. changes in foreign income levels
2. changes in taste and preferences
3. changes in foreign exchange rates
   depreciate
   - exports become cheaper in foreign currency -> increase in qty dd for exports -> increase X
   imports
   - imports become more ex in local currency -> qty dd for imports fall -> lower M
   increase in net exports, increase in AD
4. changes in relative price levels
   switch to cheaper substitutes -> increase in demand for exports

Question 6

Yfe

Answer 6

full-employment national output level

Question 7

factors shifting AS

Answer 7

[SRAS]
1. changes in prices of factor inputs
- cost of production increase, SRAS fall
2. changes in expected future prices
- expect increase in cost of living, negotiate for higher wages
[LRAS]
QQT -> increase in productive capacity
improve in tech can both increase productivity and reduce COP, leading to simultaneous shift of LRAS and SRAS

Question 8

using AD-AS to explain multiplier process

Answer 8

intially AD=AS. as there is an increase in AD, firms face an unplanned running down of stocks. to increase production, firms employ more factors of production including labour, generating higher factor income. this raises national income in the first round. This induces more consumption in the economy. Since one person’s spending become another person’s income, additional income earned by first group of factor owners create additional income for another group of factor owners. national income rises another round by a smaller extend. rise in income again generates another round of consumption. As consumption rises for another round, so will production, output and income. process continues until rise in income is too small to generate any further consumption. initial increase in I leads to multiplied increase in national income

Question 9

formula for multiplier

Answer 9

1/(MPS+MPT+MPM)=1/MPW=1/(1-MPC)

Question 10

limitations of multiplier effect

Answer 10

1. effects of multiplier effect dampened by increase in GPL
   economy operating with spare capacity. firms compete to secure scarce resources, leadings to rising factor costs, can only produce additional output at higher prices (reduce PP of households via wealth effect), actual growth achieved but to smaller extent
2. takes time for multiplier process tow ork
3. multiplier size diff depending on MPS, MPM. MPT
   SG: small multiplier size
   - high MPM: lack natural resources
   - high MPS: compulsory savings scheme, CPF
   - low MPT: attract dom. I and FDI, retain and attract foreign and local talent

Question 11

injections (J)

Answer 11

incomes received by domestic firms that do not arise from domestic household consumption
J=I (investment expenditure) +G (govt expenditure) +X (export revenue)

Question 12

withdrawals

Answer 12

household income not spent on domestic G&S

W=S(net savings) +T(net taxes) + M(import expenditure)

Question 13

multiplier process via circular flow of income

Answer 13

withdrawals > injections
- unplanned accumulation of stocks -> firms step down on production by hiring less FOP including labour, face fall in income -> reducing national income in 1st round
induces less consumption , leads to fall income for another grp of factor owners -> less withdrawals are leaked out of circular flow
process continues with each round of decrease becoming smaller, until fall in withdrawal is too small to generate any further reduction in consumption