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17. The Aggregate Expenditures Model. 17.1. Chapter Objectives. Economists Combine Consumption and Investment to Depict an Aggregate Expenditures Schedule for a Private Closed Economy Three Characteristics of the Equilibrium Level of Real GDP in a Private Closed Economy AE = Output - PowerPoint PPT Presentation
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Copyright 2011 The McGraw-Hill Companies17-1
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
17The Aggregate ExpendituresModel
17.1
Copyright 2011 The McGraw-Hill Companies17-2
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Chapter Objectives• Economists Combine Consumption and
Investment to Depict an Aggregate Expenditures Schedule for a Private Closed Economy
• Three Characteristics of the Equilibrium Level of Real GDP in a Private Closed Economy– AE = Output– Saving = Investment– No Unplanned Changes in Inventories
• How Changes in Equilibrium Real GDP Occur and Relate to Multiplier
• Integrate Public sector and Foreign Sectors into AE
• Recessionary and Expansionary Expenditure Gaps
Copyright 2011 The McGraw-Hill Companies17-3
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Consumption and Investment• Simplifications
– Private Closed Economy– Planned Investment– Investment Schedule
ran
d i
(p
erc
en
t)
Investment (billions of rand)
ID
20
8
Real GDP (billions of rand)
20
Inve
stm
ent
(bil
lio
ns
of
ran
d)
Ig
Investment Demand Curve Investment Schedule
2020
Investment Demand Curve
Investment Schedule
Copyright 2011 The McGraw-Hill Companies17-4
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Consumption and Investment• Equilibrium GDP:
C + I = GDPY = C + I Y = Co +cYd + I
• Real Domestic Output (Yd)• Aggregate Expenditures (Y)
– Aggregate Expenditures Schedule
• Equilibrium GDP• Disequilibrium 17.1
Copyright 2011 The McGraw-Hill Companies17-5
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Consumption and Investment
R377.5
392.5
407.5
422.5
437.5
460.0
467.5
482.5
497.5
512.5
R-7.5
-2.5
2.5
7.5
12.5
20
22.5
27.5
32.5
37.5
20
20
20
20
20
20
20
20
20
20
R397.5
412.5
427.5
442.5
457.5
480
487.5
502.5
517.5
532.5
R-27.5
-22.5
-17.5
-12.5
-7.5
0
+2.5
+7.5
+12.5
+17.5
0.75
0.75
0.75
0.75
0.75
0.75
0.75
0.75
0.75
0.75
R370
390
410
430
450
480
490
510
530
550
(1)Real
DomesticOutput
(andIncome)
(GDP=Yd)
(2)Con-
sump-tion(C)
(4)Saving
(S)(1-2)
(5)Investment
(I)
(6)Aggregate
Expenditures(C+I)
(7)UnplannedChanges inInventories
(+ or -)
(8)MPC
Graphically…
…in Billions of rand
(3(Co)
R100
100
100
100
100
100
100
100
100
100
Copyright 2011 The McGraw-Hill Companies17-6
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Consumption and Investment• Mathematical Calculations
48025.0
120
12025.0
12075.0
2075.0100
Y
Y
Y
YY
YY
IcYCY
ICY
d
d
dO
Copyright 2011 The McGraw-Hill Companies17-7
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
530
510
490
480
450
430
410
390
370
45°
388 400 420 440 460 480 500 520 540 560
Disposable Income (billions of rand)
Co
nsu
mp
tio
n (
bill
ion
s o
f ra
nd
)
Consumption and InvestmentEquilibrium GDP
C
I = R20 Billion
AggregateExpenditures
C = R460 Billion
C + IC + I = GDP)
EquilibriumPoint
17.1
Copyright 2011 The McGraw-Hill Companies17-8
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Equilibrium GDP
• Other Features…–Saving Equals Planned
Investment
•Leakage
• Injection
–No Unplanned Changes in Inventories
Copyright 2011 The McGraw-Hill Companies17-9
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Savings and Investment• Mathematical Calculations
48025.0
120
2010025.0
2025.0100
20)75.01(100
)1(
Y
Y
Y
Y
Y
IYcC
IS
d
d
dO
Copyright 2011 The McGraw-Hill Companies17-10
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
510
490
470
450
45°
440 460 480 500 520
Real GDP (billions of rand)
Ag
gre
gat
e E
xpen
dit
ure
s (b
illio
ns
of
ran
d)
Changes in Equilibrium GDP…and the Multiplier
Increase inInvestment
(C + Ig)0
Decrease inInvestment
(C + Ig)2
(C + Ig)1
Copyright 2011 The McGraw-Hill Companies17-11
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Adding the Public Sector
C + Ig + G = GDP
• Leakages
• Injections
• No Planned Inventory Changes
S + T = Ig + G
17.2
17.2
Copyright 2011 The McGraw-Hill Companies17-12
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Adding the Public Sector
R377.5
392.5
407.5
422.5
437.5
460.0
467.5
482.5
497.5
512.5
520
R-7.5
-2.5
2.5
7.5
12.5
20
22.5
27.5
32.5
37.5
40
20
20
20
20
20
20
20
20
20
20
20
R417.5
432.5
447.5
462.5
477.5
500
507.5
522.5
537.5
552.5
560
R370
390
410
430
450
480
490
510
530
550
560
(1)Real
DomesticOutput
(andIncome)
(GDP=Yd)
(2)Con-
sump-tion(C)
(4)Saving
(S)(1-2)
(5)Investment
(I)
(6)Exogenous
Public sectorSpending
(G)
(7)Aggregate
Expenditure(C+I+G)
Graphically…
…in Billions of rand
(3(Co)
R100
100
100
100
100
100
100
100
100
100
100
Public sector Purchases and GDP
20
20
20
20
20
20
20
20
20
20
20
Copyright 2011 The McGraw-Hill Companies17-13
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
45°
470 550
Real GDP (billions of rand)
Ag
gre
gat
e E
xpen
dit
ure
s (b
illio
ns
of
ran
d)
Adding the Public SectorPublic sector Spending and GDP
C
Public sectorSpending ofR20 Billion
C + I
C + I + G
R20 Billion Increasein Public sectorSpending Yields anR80 Billion IncreaseIn GDP
Copyright 2011 The McGraw-Hill Companies17-14
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Adding the Public sector• Mathematical Calculations
560
25.0/140
14025.0
14075.0
202075.0100
Y
Y
Y
YY
YY
GIcYCY
GICY
d
d
do
Copyright 2011 The McGraw-Hill Companies17-15
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Adding the Public sector (S=I+G)• Mathematical Calculations
560
25.0/140
14025.0
202010025.0
2020)75.01(100
)1(0
Y
Y
Y
Y
Y
GIYcC
GIS
d
d
d
d
Copyright 2011 The McGraw-Hill Companies17-16
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Adding G and the Multiplier• Mathematical Calculations
560
80480
80
20*4
decreased I becausedown move line eexpenditur totalThe 4.3
500 = 50 - 550 = Y Nuwe
5) * (10 - Y = Y Nuwe
5 = 1/0.8 = 1/MPS =k 4.2
550 = Y
110 = Y 0.2
110 = 0.8Y-Y
0.8Y + 110
0)-(0+ 40 + 20 + 0)-0.8(Y + 50
Z)-(X+G+I+ T)-c(Y+ Co
Z)-(X +G + I + C = Y 4.1475.0/1
1
*
4801
1
Y
NewY
Y
Y
kMPS
k
IkY
Y
YYNewY
lllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllll
Copyright 2011 The McGraw-Hill Companies17-17
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
560
80480
80
20*4
decreased I becausedown move line eexpenditur totalThe 4.3
500 = 50 - 550 = Y Nuwe
5) * (10 - Y = Y Nuwe
5 = 1/0.8 = 1/MPS =k 4.2
550 = Y
110 = Y 0.2
110 = 0.8Y-Y
0.8Y + 110
0)-(0+ 40 + 20 + 0)-0.8(Y + 50
Z)-(X+G+I+ T)-c(Y+ Co
Z)-(X +G + I + C = Y 4.1475.0/1
1
*
4801
1
Y
NewY
Y
Y
kMPS
k
IkY
Y
YYNewY
lllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllllll
Adding G and the Multiplier
• Mathematical Calculations
Copyright 2011 The McGraw-Hill Companies17-18
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Adding the Public Sector
R362.5
377.5
392.5
407.5
422.5
445.0
452.5
460
467.5
482.5
497.5
505
R-12.5
-7.5
-2.5
2.5
7.5
15.0
17.5
20
22.5
27.5
32.5
35.0
20
20
20
20
20
20
20
20
20
20
20
20
R402.5
417.5
432.5
447.5
462.5
485.0
492.5
500
507.5
522.5
537.5
545.0
R370
390
410
430
450
480
490
500
510
530
550
560
(1)Real
DomesticOutput
(andIncome)
(GDP=Yd)
(3)Con-
sump-tion(C)
(5)Saving
(S)
(6)Investment
(I)
(7)Exogenous
Public sector
Spending(G)
(8)AggregateExpenditu
re(C+I+G)
Graphically…
…in Billions of rand
(4)(Co)
R100
100
100
100
100
100
100
100
100
100
100
100
Public sector Taxes and the GDP
20
20
20
20
20
20
20
20
20
20
20
20
(2)Taxes
(T)
20
20
20
20
20
20
20
20
20
20
20
20
Copyright 2011 The McGraw-Hill Companies17-19
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
45°
500 560
Real GDP (billions of rand)
Ag
gre
gat
e E
xpen
dit
ure
s (b
illio
ns
of
ran
d)
Adding the Public SectorLump-Sum Tax Increase and GDP
R15 Billion DecreaseIn Consumption Froma R20 Billion (MPC=.75)Increase inTaxes
C + I + G (with T)
C + I + G
R20 Billion Increasein Taxes Yields aR60 Billion DecreaseIn GDP
Copyright 2011 The McGraw-Hill Companies17-20
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Adding the Public sector• Mathematical Calculations
500
25.0/125
12525.0
12575.0
20201575.0100
2020)20(75.0100
)(0
Y
Y
Y
YY
YY
YY
GITYcCY
GIcYCY
GICY
d
do
Copyright 2011 The McGraw-Hill Companies17-21
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Adding the Public sector (S+T=I+G)• Mathematical Calculations
500
25.0/125
12025.0
854025.0
4025.085
4020525.0100
202020)20)(75.01(100
2020))(75.01(100
)1(0
Y
Y
Y
Y
Y
Y
Y
TTY
GITYcC
GITS
d
Copyright 2011 The McGraw-Hill Companies17-22
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Adding T and the Multiplier• Mathematical Calculations
500
60560
60
15*4
475.0/1
1
*
5601
1
Y
NewY
Y
Y
kMPS
k
IkY
Y
YYNewY
Copyright 2011 The McGraw-Hill Companies17-23
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End ShowRealGDP
+5
0
-5
Net
Exp
ort
s X
n(b
illio
ns
of
ran
d)
Real GDP (billions of rand)
Ag
gre
gat
e E
xpen
dit
ure
s(b
illio
ns
of
ran
d)
540
520
500
480
46045°
460 480 500 520 540
International TradeNet Exports and Equilibrium GDP
AggregateExpenditureswith PositiveNet Exports
C + I +G
AggregateExpenditureswith NegativeNet Exports
C + I + G +Xn2
C + I +G +Xn1
Xn1
Xn2
Positive Net Exports
Negative Net Exports
480 500 520
Copyright 2011 The McGraw-Hill Companies17-24
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
International Trade• Net Exports and Aggregate
Expenditures
• Net Exports Schedule
• Net Exports and Equilibrium GDP– Positive Net Exports– Negative Net Exports
Copyright 2011 The McGraw-Hill Companies17-25
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show -700 200 150 100 50 0 50 100 150 200 250
International Trade
Net Exports of Goods - Select Nations, 2004
Positive Net ExportsNegative Net Exports
Canada
France
Germany
Italy
Japan
United Kingdom
United States
+37
+195
+111
-17
-2
-117
-707
Source: World Trade Organization
GLOBAL PERSPECTIVE
Copyright 2011 The McGraw-Hill Companies17-26
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Equilibrium Versus Full-Employment GDP
Recessionary Expenditure Gap
Real GDP (billions of rand)
Ag
gre
gat
e E
xpen
dit
ure
s(b
illio
ns
of
ran
d)
550
530
510
490
47045°
490 510 530
AE0
AE1
FullEmployment
RecessionaryExpenditureGap = R5 Billion
R5 BillionGap YieldsR20 Billion
GDPChange
Copyright 2011 The McGraw-Hill Companies17-27
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Equilibrium Versus Full-Employment GDP
Inflationary Expenditure Gap
Real GDP (billions of rand)
Ag
gre
gat
e E
xpen
dit
ure
s(b
illio
ns
of
ran
d)
550
530
510
490
47045°
490 510 530
AE0
AE2
FullEmployment
InflationaryExpenditureGap = R5 Billion R5 Billion
Gap YieldsR20 Billion
GDPChange
Copyright 2011 The McGraw-Hill Companies17-28
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Equilibrium Versus Full-Employment GDP
• Limitations of the Model– Does Not Show Price Level
Changes– Ignores Premature Demand-Pull
Inflation– Limits Real GDP to the Full-
Employment Level of Output– Does Not Deal with Cost-Push
Inflation– Does Not Allow for “Self-
Correction”
Copyright 2011 The McGraw-Hill Companies17-29
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Say’s Law - The Great Depression and Keynes
• Classical School – Automatic Self-Adjustment to Full Employment – Mill, Ricardo
• Views Based Upon “Say’s Law” - J.B. Say (1767-1832) – Supply Creates its Own Demand
• Great Depression Caused Questions• Keynes Answered in his General Theory
of Employment, Interest, and Money• Income and Saving Discrepancies• Volatility in Investment Spending• Cyclical Unemployment Can Occur• Public sector Should Be Active in the
Recovery Process
Last
Word
17.2
Copyright 2011 The McGraw-Hill Companies17-30
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Key Terms• planned investment• investment schedule• aggregate expenditures schedule• equilibrium GDP• leakage• injection• unplanned changes in inventories• lump-sum tax• net exports• recessionary-expenditure gap• inflationary-expenditure gap
Copyright 2011 The McGraw-Hill Companies17-31
Consumption and InvestmentEquilibrium GDPEquilibrium GDP and the MultiplierPublic sector Spending and GDPLump-Sum Tax Increase and GDPAdding the foreign sectorRecessionary Expenditure GapInflationary Expenditure GapLast Word
Key Terms
End Show
Next Chapter Preview…
Aggregate Demand andAggregate Supply
