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UCONN / Economics / ECON 1202 / Where along the AE function is the economy in equilibrium?

Where along the AE function is the economy in equilibrium?

Where along the AE function is the economy in equilibrium?

Description

School: University of Connecticut
Department: Economics
Course: Principles of Macroeconomics
Professor: Stephen antoinetti
Term: Fall 2015
Tags: aggregate expenditures, the multiplier process, output, equilibrium income, the government sector, Taxes, government spending, national debt, deficit, surplus, fiscal policy, Economics, Macro, and Macroeconomics
Cost: 25
Name: Econ 1202 Week 6
Description: These notes cover aggregate expenditures, the multiplier process, output, equilibrium income, the government sector, taxes, government spending, national debt, deficit, surplus, and fiscal policy.
Uploaded: 01/15/2016
13 Pages 405 Views 0 Unlocks
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Classical Theory of InvestmentDon't forget about the age old question of When did the French colonialism start?

  • Firms identify potential projects
  • Firms rank projects based on expected return
  • Firms compare expected return to the cost of borrowing (interest rate)
  • Firms invest if expected return  cost of borrowing

                                            ⤷ greater or equalDon't forget about the age old question of Define required reserve ratio.

If you want to learn more check out What are the two different political systems?

Model IIf you want to learn more check out nathan brown george washington university

        Household  Sector

  • Consum
  • Sav.

        Business Sector

  • Invest.

If you want to learn more check out uw engr 231

The economy will be in equilibrium when aggregate expenditure (AE) equal income or output (y)

  • In equilibrium, y=AE
  • In model I, AE = Household con. Spending + Business Invest. Spen.
  • In equilibrium, AE= C+I (Model I)

Don't forget about the age old question of What are represented by collection classes?

Derive an AE function

* The AE function lies above the consumption function by the dollar amount of investment spending.

Where along the AE functions is the economy equilibrium?

        

                                        At any point on the 45o line,

                                        AE = y (equilibrium)

                                                   ⤷ economy not expanding / contracting


How does equilibrium income change?

Ex.                                                 A given change in AE will lead to a greater

                                                change in equilibrium income

Assume Investment Spending Increases by $100

 ⤷  shifts upwards to  by $100

 ⤷ Equilibrium income increases from  to

 ⤷ Economy is growing

Ex.1) Assume:

        → Investment Spending ↑ by $100

→ Marginal Prosperity to consume (MPC) = .8

     (how much you spend; 80% of income)

Investment Spending ↑ by $100 →

Income ↑ by $100 → consumption

↑ by $80 → income ↑ by 80 →

consumption ↑ by %64 → Income ↑ $64 →

consumption ↑ by $51.20 → Income ↑ $51.20 →

consumption . . . .

100+80+64+51.20+. . . = Δy

The Multiplier Process

Explains how a given change in AE leads to a multiple change in equilibrium income


More Direct way to determine the change in Equilibrium Income:

  • In equilibrium, y=AE
  • In Model I, AE = C+I
  • C=a+b
  • In Model I, (no taxes/gov)
  • c=a+bY
  • In equilibrium, Y=a+bY+I

Solve for y

        

 ⤷ Equilibrium income

=(+)

Change in equilibrium

The multiplier

Change in autonomous consumption spending

*Household wealth

*Expected income

*Ease and cheapness of borrowing

Change in investment spending

*Expected Return

*Cost of borrowing

The multiplier identifies the change in equilibrium income for every one dollar change in AE

Ex.1) Assume

        The multiplier         

                        

                        

        $1 change in AE leads to $10 change in equilibrium income

Ex.2) Assume

        Multiplier

        A $1 change in AE leads to a $4 change in equilibrium income


Back to Beginning

  • Investment spending ↑(ΔE line on graph goes ↑ by amount)
  • AE goes ↑ = bigger change in Y (income)
  • Multiplier shows how much (1/1-b)

ex.         

        

        

        

        

        

A $100 ↑ in investment spending lead to a $500 ↑ in equilibrium income

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