Aggregate Expenditures

tax multiplier formula

-MPC/(1-MPC)

Expenditures Multiplier Formula

1/(1-MPC)

In the early 1930s, the economic engine of the United States sputtered to a halt and unemployment rates reached a high of

25% in 1933

Real Gross Domestic Product (real GDP, Y)

A measure of the constant dollar value of all final goods and services produced in a country during a fixed period of time; sometimes called inflation-adjusted GDP. When an economy is in equilibrium, real GDP equals income, Y.

Aggregate Expenditure Model, expanded form

AE= A + (MPC x(Y-T)) + I +G + NX

Aggregate Expenditure Model

AE= C+I+G+NX C= A+ (MPC x (Y-T))

aggregate expenditures equilibrium identity

AE=Y

Whenever a law with economic effects is proposed, whether it's a spending bill a bill to increase the gasoline tax or a bill to reform the U.S. health care system, the task of determining the likely impacts of the bill is given to th

Congressional Budget Office.

disposable income equation

DI= income(Y) - taxes(T)

the consumption/saving identity

MPC + MPS = 1

When there are taxes, the initial change in consumption will equal the

MPC times the change in disposable income due to taxes.

multiplier effect

The concept that an additional dollar of expenditures will result in the creation of more than one dollar's worth of real GDP

recessionary gap

The difference or gap between expenditure when real GDP is below the full-employment level and the level of expenditure at full-employment real GDP

output gap

The difference, or gap, between current real GDP and full-employment real GDP.

inflationary gap

The difference, or gap, between expenditure when real GDP is above the full-employment level and the level of expenditure at full-employment real GDP

expenditures multiplier

The effect that a $1 change in expenditure has on real GDP

Tax Multiplier

The effect that a $1 change in taxes has on real GDP

Optimization

The idea that people make choices in order to maximize the overall benefit, or utility, of an action subject to its cost; people will engage in an activity as long as the marginal benefit of an activity is greater than or equal to its marginal cost.

autonomous consumption(A)

The level of consumption expenditure when income is equal to zero. Autonomous consumption is funded by drawing on savings or by borrowing.

full-employment real GDP

The level of real GDP produced in an economy when it is operating at the natural rate of unemployment. Also, the level of real GDP when the economy is in a long-run equilibrium.

decreasing marginal benefit

The negative relationship between the marginal benefit associated with the use of a good or service and the quantity consumed; the more of a good or service that is consumed, in a given period of time, the lower the marginal benefit associated with each additional unit.

consumption schedule

a graph showing the relationship between income and consumption

savings schedule

a graph showing the relationship between income and savings

In the aggregate expenditures model: taxes are assumed to be

a lump sum and independent of income.

Aggregate Expenditure Model

a model, developed by John Maynard Keynes, that relates income and expenditure in an economy such that, n equilibrium, total expenditures in the economy will be equal to total output

AE equilibrium

aggregate expenditures = income or RGDP

expected rate of return

an anticipated increase in profit resulting from additional investment; expressed as a percentage of the monetary cost of the additional investment

MPC equation

change in consumption/change in income

MPS equation

change in savings/change in income

capital goods

durable goods that are used to produce other goods and services

investment schedule

in the aggregate expenditures model, a horizontal line showing the relationship between gross investment (I) and the level of real GDP (Y) in the economy

government purchases schedule

in the aggregate expenditures model, a horizontal line showing the relationship between net exports(NX) and the level of RGDP(Y)

In the absence of taxes

income and disposable income are equal

Dis-saving occurs when savings is

negative

what is always equal to income and is referred to as Y as well

output

When analyzing the Great Depression John Maynard Keynes concluded that the overall demand for labor would depend on the

overall demand for what gets produced.

The difference between expenditures at the full-employment level of output and expenditures when output is less than the full-employment level is called a(n)

recessionary gap

equilibrium line in aggregate expenditure model

the 45-degree line through the origin that represents all points at which aggregate expenditures are equal to output or RGDP (Y)

disposable income

the amount of income available to spend or save after taxes have been paid

Intervening in the economy to help it recover does have a downside: When the government spends more or takes in less tax revenue

the deficit and debt increase.

Marginal Propensity to Save (MPS)

the fraction of each additional dollar of income that is saved

Marginal Propensity to Consume (MPC)

the fraction of each additional dollar of income that is spent on consumption

real interest rate equation

the inflation-adjusted return= nominal interest rate-inflation rate

real interest rate

the interest rate paid to lenders and savers when the expected rate of inflation equals zero

investment demand

the negative relationship between the quantity of new physical capital demanded by firms and the prevailing interest rate

interest rate

the payment made to agents that lend or save money, expressed as an annual percentage of the monetary amount lent or saved sometimes called nominal interest rate

Aggregate Expenditures (AE)

the sum of all expenditures made in an economy on consumption, gross investment, government purchases, and net exports.