More, But Not Of The Same

Further Analysis Remember that I + G + CA = S + T. I, however, contains planned or demanded investments (I D ) + unplanned investments (I U ), including undesired inventory changes. Hence, I = I D + I U. If I U = 0, then the goods & services sector is in equilibrium. That is, the economy is producing the quantity of goods & services that is demanded. But if not, the economy is not in equilibrium.

Supply & Demand in the Goods Sector r Q S+T I D +G+CA Excess supply => I U > 0 Excess demand => I U < 0

Aggregate Demand & Supply The demand side should be clear: assuming consumers have taken what they want, investors, government purchasing agents, and net exporters take the rest. Where does that “rest” come from? Who supplies it? Why is it equal to S + T?

Good Question Income is earned through productive activity. The total product of productive activity is Y. But that is also total earned income. Taxes (T) are paid out of earned income; but this transfers purchasing power that the government uses to purchase a quantity of goods & services. Both the purchasing power and the goods & services are supplied by the people to the government.

Saving Saving is done out of earned income. It transfers purchasing power from the savers through financial intermediaries to investors and to the government. Some might even be transferred to the rest of the world. Also transferred is a portion of total product purchased by investors, the government and possibly foreigners.

The Supply Side In this sense, S + T is a supply concept. The general public produces Y and in the process earns $Y. They keep (spend) about 2/3 of it. The remaining $2Y/3 is taxed away or ends up in savings accounts. On the real side, the remaining 2Y/3 in product is now supplied or available to the government or to investors. The government already has $T but borrows $(G-T) to finance G.

Investment Investors borrow the remaining funds, $(S - (G-T)) to purchase I in investment goods and services.

Structure of Total Product Note that the composition of C, I, G & CA are not the same, although there is some overlap. All sectors buy computers & automobiles, but only the government buys smart bombs. The relative size & growth rates of the sources of demand determine what is produced. A larger government means larger G & more companies producing for the government.