Aggregate Expenditures Model

In an economy where all spending is done by households and individuals, in equilibrium,

Consumption=disposable income and savings=0

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

interest rate

Payment made for the use of money, expressed as a percentage of the amount borrowed. nominal interest rate

Marginal Benefit (MB)

The additional benefit received from the consumption of the next unit of a good or service

Marginal Cost (MC)

The additional cost incurred from the consumption of the next unit of a good or service

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

gross investment

The dollar value of all new capital purchased (as investment) and the expansion of inventories in an economy during a fixed time period Business fixed residential inventory

expenditures multiplier

The effect that a $1 change in expenditure has on real GDP; calculated as the ratio of the total change in real GDP due to a change in initial expenditure.

Tax Multiplier

The effect that a $1 change in taxes has on real GDP; in the aggregate expenditures model, calculated as the change in output divided by an initial change in taxes

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.

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.

investment demand

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

increasing marginal cost

The positive relationship between the marginal cost associated with the use of a good or service and the quantity produced; the more of a good or service that is produced, in a given period of time, the higher the marginal cost associated with each additional unit.

marginal decision making

The process of making choices in increments by evaluating the additional, or marginal, benefit against the additional, or marginal, cost of an action.

Aggregate Expenditure

The sum of all expenditures made in an economy on consumption, gross investment, government purchases, and net exports. In equilibrium AE=income or real gap

consumption schedule

a graph showing the relationship between income and consumption

Savings Schedule

a graph showing the relationship between income and savings

Real GDP (Y)

a measure of the constant dollar value of all final goods produced in a country during a fixed period of time sometimes called Inflation adjusted GDP. In equilibrium real gdp=income

Aggregate Expenditure Model

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

consumption

all expenditures made by households on goods like clothing, foods, electronics and recreation during a given time period

government purchases

all final goods purchased such as office supplies tanks teachers airport security

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

Net Exports (NX)

difference between exports and imports

capital goods

durable long lasting goods that are used to produce other goods.

The opportunity cost of investment

equals the cost that the firm pays, if it borrows money, to make the purchase

When aggregate expenditures by the amount of gross investment

equilibrium real GDP increases

The aggregate expenditures model shifts vertically by an amount equal to gross investment

if gross investment increase

Government purchases schedule

in the aggregate expenditures model, a horizontal line showing the relationship between government purchases (G) and the level of real GDP (Y) in the economy

Net Exports Schedule

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

equilibrium line

in the aggregate expenditures model, the 45-degree line through the origin that represents all points at which aggregate expenditure (AE) is equal to output, or real GDP (Y)

The expected rate of return

is the additional profit the firm expects to earn for each dollar of physical capital purchased, expressed as a percentage

Investment demand downward slopes when

quantity of investment demanded increases as interest rates fall

Disposable Income (DI)

the amount of income available to save or spend after taxes have been paid. calculated as Income Y minus taxes. DI=Y-T

recessionary gap

the difference between expenditure when gdp is below the full employment level

Marginal Propensity to Consume (MPC)

the fraction of each additional (marginal) dollar of disposable income spent on consumption; the change in consumption divided by the change in disposable income

Marginal Propensity to Consume (MPC)

the fraction of each additional dollar of disposable income spent on consumption

Marginal Propensity to Save (MPS)

the fraction of each additional dollar of income that is saved

real interest rate

the interest rate paid to lenders and savers when the expected rate of inflation equals 0. the inflation adjusted return= the nominal interest rate-inflation rate

autonomous consumption

the level of consumption expenditure when income=0. funded by drawing on savings or borrowing

Traditional models of labor markets implied that if unemployment was very high

there was a surplus of labor and overtime wages would fall making firms more willing to hire the unemployed

If the output is lower than the full employment level expenditures

too low