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C+I+G+net X C+I C 45 o means Y =C+I+G+net X equilibrium a =b= marginal propensity to consume income Expenditure.

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Presentation on theme: "C+I+G+net X C+I C 45 o means Y =C+I+G+net X equilibrium a =b= marginal propensity to consume income Expenditure."— Presentation transcript:

1 C+I+G+net X C+I C 45 o means Y =C+I+G+net X equilibrium a =b= marginal propensity to consume income Expenditure

2 45 o C+I+G+net X New C+I+G+net X $10 billion More Govt Expenditure Old equilibrium New equilibrium income Expenditure HOW MUCH DOES INCOME RISE?

3 45 o C+I+G+net X New C+I+G+net X $10 b. More Expend- iture Means $10 b. More income $10 b. More income Means $9 b. more Expend Means $9 b. More income Etc. income Expenditure INCOME RISES BY $100 BILLION.

4 45 o means Y =C+I+G+net X C+I+G+net X C+I C New C+I+G+net X $10 billion More Govt Expenditure Old equilibrium New equilibrium

5 Shifts of the Consumption Function In the function C = a + bY D a change in either of the values of a or b will change the dimensions of the function.

6 Shifts of the Consumption Function CONSUMPTION ( C ) (dollars per year) DISPOSABLE INCOME(dollars per year) Increased confidence 0 a2a2 a1a1 C = a 2 + bY D C = a 1 + bY D

7 Shifts of the Consumption Function CONSUMPTION ( C ) (dollars per year) DISPOSABLE INCOME(dollars per year) 0 a2a2 a1a1 C = a 2 + bY D C = a 1 + bY D Increased confidence ==>increased consumption of $100 billion

8 Shifts of the Consumption Function CONSUMPTION ( C ) (dollars per year) DISPOSABLE INCOME(dollars per year) 0 a2a2 a1a1 C = a 2 + bY D C = a 1 + bY D Increased consumption of $100 billion ==>Increased income of $100 billion

9 Shifts of the Consumption Function CONSUMPTION ( C ) (dollars per year) DISPOSABLE INCOME(dollars per year) 0 a2a2 a1a1 C = a 2 + bY D C = a 1 + bY D ASSUME MPC=.8 Increased income of $100 billion ==>Increased consumption of $80 billion

10 Shifts of the Consumption Function CONSUMPTION ( C ) (dollars per year) DISPOSABLE INCOME(dollars per year) 0 a2a2 a1a1 C = a 2 + bY D C = a 1 + bY D Increased consumption of $80 billion ==>Increased income of $80 billion

11 Shifts of the Consumption Function CONSUMPTION ( C ) (dollars per year) DISPOSABLE INCOME(dollars per year) 0 a2a2 a1a1 C = a 2 + bY D C = a 1 + bY D ASSUME MPC=.8 Increased income of $80 billion ==>Increased consumption of $64 billion

12 Shifts of the Consumption Function CONSUMPTION ( C ) (dollars per year) DISPOSABLE INCOME(dollars per year) 0 a2a2 a1a1 C = a 2 + bY D C = a 1 + bY D Increased income of $64 billion ==>Increased income of $64 billion

13 ULTIMATELY IS 5 TIMES GREATER THAN INITIAL SHIFT CONSUMPTION ( C ) (dollars per year) DISPOSABLE INCOME(dollars per year) 0 a2a2 a1a1 C = a 2 + bY D C = a 1 + bY D

14 THE MULTIPLIER 100 * ___1___ 1-MPC = 100 * ___1___ =500

15 Shifts vs. Movements CONSUMPTION (billions of dollars per year) DISPOSABLE INCOME (billions of dollars per year) 0Y2Y2 Y1Y1 a2a2 a1a1 ChCh CgCg CfCf Shift Movement g h f C = a 2 + bY D C = a 1 + bY D

16 NO FOREIGN SECTOR, NO GOVERNMENT Structural Equations: Z=C+I+G Identity Yd= C + S Capital letters are endogenous Y=Z Equilibrium C=c o + c 1 *Yd Behavioral I=Io Exogenous Reduced Form Equations: Y = 1/(1-c 1 ) * {c o +Io} S= Y-C

17 GOVERNMENT BUT NO FOREIGN SECTOR Structural Equations: Z=C+I+G Identity Yd= C + S Y=Z Equilibrium C=c o + c 1 *Yd Behavioral =c o + c 1 *(Y-T) I=Io G=Go Exogenous T=To Reduced Form Equations: Y = 1/(1-c 1 ) * {c o - c 1 *T o +Io +Go} S= Y-T-C

18 Structural Equations: Z=C+I+G Identity Yd= C + S Y=Z Equilibrium C=c o + c 1 *Yd Behavioral =c o + c 1 *(Y-To- t*Y) I=Io Parameter G=Go Exogenous T=To+ t*Y Reduced Form Equations: Y = 1/(1-c 1 + t*c 1 ) * {c o +Io +Go-c 1 To} S= Y-T-C GOVERNMENT w/ INCOME TAX BUT NO FOREIGN SECTOR

19 Structural Equations: Z=C+I+G+X-IM Identity Yd= C + S Y=Z Equilibrium C=c o + c 1 *Yd Behavioral =c o + c 1 *(Y- t*Y) I=Io Parameter G=Go Exogenous T=To+t*Y, IM=q*Y Reduced Form Equations: Y = 1/(1-c 1 + t*c1+q ) * {c o +Io +Go+To} S= Y-T-C GOVERNMENT w/ INCOME TAX and FOREIGN SECTOR

20 MACROECONOMIC SCHOOLS OF THOUGHT Classical Economics: 1920s Keynes’ General Theory: 1930s Keynesian Cross: 1940s IS-LM & Phillips Curve: 1950s New Keynesian Economics: 1980s Monetarism: 1960s New Classical Economics:1970s Post Keynesian Economics: 1950s-1990s

21 Lower Price Higher Price Lower Output Higher Output Leftward (downward) Shift of Demand Rightward (upward) Shift of Demand Rightward (downward) Shift of Supply Leftward (upward) Shift of Supply Breakdown all shifts into their output and price vectors

22 Lower Price (deflation) Higher Price (inflation) Lower Output (slow Growth) Higher Output (fast Growth) RECESSION/DEPRESSION Leftward (downward) Shift of Aggregate Demand: less injections, or more leakages HIGH GROWTH -HIGH INFLATION Rightward (upward) Shift of Demand: mor injections, or less leakages HIGH GROWTH -LOW INFLATION Rightward (downward) Shift of Supply : More factors or lower factor prices STAGFLATION Leftward (upward) Shift of Aggregate Supply: Less factors or higher factor prices Breakdown all shifts into their output and price vectors

23 Lower Price Higher Price Lower Output Higher Output Leftward (downward) Shift of Demand Rightward (upward) Shift of Demand Rightward (downward) Shift of Supply Leftward (upward) Shift of Supply Breakdown all shifts into their output and price vectors More income More tastes for good More buyers More complement Higher priuce for substitutes Buyer expectations about future shortages less income less tastes for good less buyers less complement lower priuce for substitutes Buyer expectations about future shortages Less productivity (technological change) Higher price of resources Seller expectations of future surpluses Less number of sellers More productivity (technological change) Lower price of resources Seller expectations of future shortages More number of sellers


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