Economics Chapter 27

the size of the multiplier

If the economy is in recession -- Profit prospects start to look better, and firm will start to plan to increase in investments - world economy moves towards expansion Calculate the multiplier = the change in equilibrium expenditure / the change in autonomous expenditure

Marginal propensity to import

The fraction of an increase in real GDP that is spend on imports. It is calculated as the change in imports divided by the change in real GDP - Real GDP influence consumption expenditure and imports, which intern influence real GDP

The multiplier and the slope of the AE curve, pg. 658

The magnitude of the multiplier depends on the slope of the AE curve - aggregate expenditure and real GDP change because induced expenditure and autonomous expenditure change - The change in real GDP (deltaY) = the change in induced expenditure (deltaN) + change in autonomous expenditure (deltaA) - The change in induced expenditure is determined by the change in real GDP and the AE slope curve - Slope of the AE curve = rise/run

Equilibrium Real GDP and the Price level

We learned that aggregate demand and short-run aggregate supply determine equilibrium real GDP and the price level - a change in investment changes aggregate demand and shifts the aggregate demand curve

Changes in aggregate expenditure and aggregate demand

When any influence on aggregate planned expenditure other than the price level changes, both the aggregate expenditure curve and the aggregate demand curve shift - larger the multiplier the larger is the shift in the aggregate demand curve that results from a given chance in autonomous expenditure - a decrease in autonomous expenditure shifts the aggregate expenditure curve downward and shifts the aggregate demand curve leftward

Adjusting Quantities and Prices

When firms can't keep up with sales and their inventories fall below target, they increase production but at some point, they raise their prices

Convergence to equilibrium above equilibrium

actual aggregate expenditure is greater than aggregate planned expenditure - when the price level is fixed real GDP is determined by equilibrium expenditure

Aggregate Planned Expenditure

add expenditure components together - is the expenditure on Canadian produced goods and services

Aggregate expenditure and aggregate demand

aggregate expenditure curve is the relationship between the aggregate planned expenditure and real GDP - aggregate demand curve is the relationship between the aggregate quantity of goods and services demanded and the price level

Expenditure plans

aggregate expenditure has four components - consumption expenditure - Investment - government expenditure on goods and services - net exports

disposable income

aggregate income minus taxes plus transfer payment - Aggregate income = Real GDP, so disposable income spend on real GDP

Convergence to equilibrium below equilibrium

aggregate planned expenditure is greater than actual aggregate expenditure - People spend (aggregate planned expenditure) and firms' inventories fall, change in inventories is part of investment actual investment is less than planned investment - Planned expenditure exceed real GDP, inventories decrease, and production increases to restore inventories

Actual aggregate expenditure

always equals real GDP - If aggregate planned expenditure is less than real GDP, firms sell less than they planned to sell and end up with unplanned inventories

Which of the following events would shift the consumption function upward

an increase in wealth

Induced expenditure

consumption expenditure minus import, which varies with real GDP

Marginal propensity to save

delta S/delta YD

An increase in aggregate demand in the short run

describes the economy -- the aggregate expenditure curve and equilibrium expenditure - investment increases, the aggregate expenditure curve shifts upward - new aggregate demand curve, the price level does not remain fixed. The price level rises, and as it does, the aggregate expenditure curve sifts downward - the short run equilibrium occurs when the aggregate expenditure curve has shifted downward

Autonomous consumption

does not change as disposable income changes

aggregate planned expenditure

doesn't always equal to actual aggregate expenditure and therefore is not always equal to real GDP - if aggregated planned expenditure exceeds real GDP, firms sell more than they planned to sell and end up with inventories being too low

Aggregate planned expenditure

equal to the sum of the planned levels of consumption expenditure, investment, government expenditure on goods and services, and exports minus imports - Consumption expenditure and imports change when income changes and so they depend on real GDP

Multiplier

the amount by which a change in autonomous expenditure is magnified or multiplied to determine the change in equilibrium expenditure and real GDP - The difference in the influence of a multiplier between the short run and the long run is that the multiplier effect is zero in the long run

Marginal propensity to consume

is the fraction of change in disposable income that is spend on consumption delta consumption expenditure (C)/delta disposable income (YD) fraction of a change in disposable income that is spend on consumption

autonomous consumption

the amount of consumption expenditure that would take place in the short run even if people had no current income

induced consumption

the consumption expenditure that is induced by an increase in disposable income

Business Cycle Turning Points

the economy moves from expansion to recession or from recession to expansion

45 Line

the height of which measures disposable income - on the line -- consumption expenditure = disposable income below the middle point -- consumption expenditure exceeds disposable income Above the middle point - consumption expenditure is less than disposable income

Wealth effect

the higher the price level, the smaller is the purchasing power of wealth

Equilibrium expenditure

the level of aggregate expenditure that occurs when aggregate planned expenditure equal real GDP - its a level of aggregate expenditure and real GDP at which spending plans are fulfilled - on different points on the price level, equilibrium expenditure determines real GDP - If aggregate planned expenditure and actually aggregate expenditure are unequal, there is a convergence with the equilibrium expenditure

Autonomous expenditure

the sum of investment, government expenditure and exports, which does not vary with real GDP - the curve summarizes the relationship between aggregate planned expenditure and real GDP - autonomous expenditure increases, aggregate expenditure increase and so does equilibrium expenditure and real GDP - An increase in Autonomous expenditure shifts the AE curve, upward but leaves its slope unchanged

Consumption function

relationship between consumption expenditure and disposable income

saving function

relationship between saving and disposable income

An increase in autonomous consumption

shifts the consumption function upward

An increase in aggregate demand in the long run

- The long-run effect of an increase in aggregate demand. In the long run, real GDP equals potential GDP and there is full employment - The higher money wage rate increases firms' cost, which decreases short-run aggregate supply and shifts the SAS curve leftward - When the money wage rate and the price level has increased by the same percentage, real GDP is again equal to potential GDP and the economy is at point a. In the long run, the multiplier is zero

Influence consumption expenditure and saving plans

- disposable income - real interest rate - wealth - expected future income

Imports and Income taxes

- influences the size of the multiplier and make it smaller than it otherwise would be - imports make the multiplier smaller - Only expenditure on Canadian produced good and services increase Canadian real GDP - The larger the marginal propensity to import, the smaller is the change in Canadian real GDP

The Multiplier process

- process that happened over a few months - Autonomous expenditure increases by $50 billion and real GDP increases by $50 - This increase in real GDP increases induced expenditure

Slopes and Marginal Propensities

- slope of the consumption function is the marginal propensity to consume - slope of the saving function is the marginal propensity to save

Import function

Canadian real GDP is the main influence - an increase in Canadian real GDP increases the quantity of Canadian imports

Consumption as a Function of Real GDP

Consumption expenditure changes when disposable income changes, disposable income changes when real GDP changes

Why is the multiplier greater than 1?

equilibrium expenditure increase by more than the increase in autonomous expenditure - is greater than 1 because induced expenditure increases - increase in autonomous expenditure induces further increases in expenditure - additional income induces additional consumption expenditure, which creates additional income

Substitution effect

for a given expected future price level, a rise in the price level toddy make current goods and services more expensive relative to fruitier goods and services and results in a delay in purchases -- an inter temporal substitution

Multiplier effect

increase in autonomous expediter, increases equilibrium expenditure - equilibrium expenditure increase by more than the increase in autonomous expenditure. The multiplier is greater than 1

Dissaving

when consumption expenditure exceeds disposable income