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**Aggregate Expenditure**

Chapter 14

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**AE (Aggregate Expenditure)**

Concept total expenditure in the economy which is equal to the sum of C, I, G and NX. Autonomous vs. induced expenditure Autonomous: spending not influenced by the level of real GDP (e.g., I, G, X) Induced: spending affected by the level of real GDP (e.g., C) Planned vs. unplanned Actual expenditure = planned plus unplanned expenditure = real GDP

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**AE (Aggregate Expenditure) Continued**

Distinction between AE and AD AE : relationship between planned aggregate expenditure and real GDP AD: relationship between real GDP demanded and the price level

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**Consumption Expenditure**

Induced expenditure Consumption function: relationship between consumption expenditure and disposable income (consumption depends on disposable income) MPC (marginal propensity to consume): the fraction of the change in disposable income that is spent on consumption MPC = Δ C / Δ Disposable Income MPC for the US economy is .87 Other variables that affect (shift) consumption Real interest rate, purchasing power of money, expected future disposable income

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**Other Expenditures Imports Exports Investment Government purchase**

Induced expenditure (imports depend on the level of real GDP) Marginal propensity to import = Δ imports / Δ real GDP Exports Autonomous expenditure Investment Government purchase

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**Equilibrium Expenditure**

The level of aggregate expenditure that occurs when planned aggregate expenditure equals real GDP If AE > real GDP Unplanned decrease in inventories production increase back to equilibrium level If AE < real GDP Unplanned increase in inventories production decrease back to equilibrium level

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**Expenditure Multiplier**

You thought it is over with the multiplier with the 2nd test, but not yet. What is it? The magnitude by which real GDP (= equilibrium expenditure) changes from a change in autonomous expenditure Δ real GDP / Δ autonomous expenditure Formula Expenditure multiplier = 1/ (1-MPC)

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**Expenditure Multiplier Continued**

How to obtain the formula Assuming no government and no foreign sector, Δ Y = Δ C + Δ I Δ C can be expressed as MPC * Δ Y. So, Δ Y = MPC * Δ Y + Δ I By rearranging, Δ Y – MPC * Δ Y = Δ I or (1-MPC) Δ Y = Δ I Therefore, Δ Y / Δ I = 1 / (1-MPC) Actual multiplier is smaller than theoretically predicted because of imports and income taxes.

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