1. Learning Objectives: Aggregate Expenditures LO1: Understand the marginal propensity to consume and how consumption, saving, and investment relate to national income LO2: Understand the concept of expenditures equilibrium LO3: Describe how small changes in spending have a large effect on national income CHAPTER 6 6-1© 2012 McGraw-Hill Ryerson Limited

2. Investment Investment Spending Investment spending is far more volatile than consumption spending Investment can be postponed Largely independent of income 6-2© 2012 McGraw-Hill Ryerson Limited LO2 I = 75

3. Expenditure Equilibrium So far there are two spending sectors – consumption and investment Total spending, or Aggregate Expenditures (AE), is the sum of these two (C + I) Expenditure equilibrium is where AE = Y Expenditure equilibrium the income at which the value of production and aggregate expenditures are equal 6-3© 2012 McGraw-Hill Ryerson Limited LO2

4. Table 6.3 National Income and Aggregate Expenditures 6-4© 2012 McGraw-Hill Ryerson Limited LO2 National Income (Y) Consumption (C) Saving (S) Investment (I) Aggregate Expenditures (AE) (C + I) Surplus(+)/ Shortage (−) (Unplanned Investment) 050−5075 125−125 100125−2575200−100 200 075275−75 3002752575350−50 4003505075425−25 50042575 5000 60050010075575+25 70057512575650+50 80065015075725+75 Y = AE

5. Expenditure Equilibrium Marginal Propensity to Expend The ratio of the change in aggregate expenditure that results from a change in income Marginal Leakage Rate The rate of change of leakages that result from a change in income 6-5© 2012 McGraw-Hill Ryerson Limited LO2 MPE =  aggregate expenditures /  income MLR =  total leakages /  income

6. Aggregate Expenditure Function 6-6© 2012 McGraw-Hill Ryerson Limited LO2 C = 50 + 0.75 Y I = 75 AE = 125 + 0.75 Y Autonomous expenditure MPE Deriving Aggregate Expenditure Add consumption and investment, the two spending sectors in this economy

7. Aggregate Expenditure Function 6-7© 2012 McGraw-Hill Ryerson Limited LO2 Calculating AE Equilibrium Where value of production (and incomes) equals aggregate expenditures, or Y = AE AE = 125 + 0.75Y Y = AE Y = 125 + 0.75 Y.25 Y = 125 Y = 125/.25 = 500

8. Aggregate Expenditure Function production = aggregate expenditures at equilibrium If income < spending, buying previous years’ production (inventory) If income > spending, inventories build up Unplanned Investment the amount of unintended investment by firms in the form of a buildup or rundown of inventories, that is, the difference between production (Y) and aggregate expenditures (AE) 6-8© 2012 McGraw-Hill Ryerson Limited LO2

9. The Aggregate Expenditure Function Chapter 6-9 National Income (Y) C= 50 + 0.75Y AE 0 100 200 300 400 500 600 300 200 100 400 500 700 600 700 I = 75 AE =125 + 0.75Y Y = AE Shortage Surplus 45 Fig. 6.3A LO2 © 2012 McGraw-Hill Ryerson Limited

10. Expenditure Equilibrium Chapter 6-10 Expenditure Equilibrium AE 0 100 200 300 400 500 600 300 200 100 400 500 600 700 AE =125 + 0.75Y Y = AE Shortage Surplus 45 600 300 200 100 400 500 700 100 0 50 - 50 Injections (I) Leakages (S) National Income (Y) Injections/Leakages Fig. 6.3 © 2012 McGraw-Hill Ryerson Limited LO2