Chapter 28: The Aggregate Expenditures Model

Assumptions and Simplifications Use the Keynesian aggregate expenditures model Prices are fixed GDP = DI Begin with private, closed economy Consumption spending Investment spending

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The Aggregate Expenditures Model28McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.Assumptions and SimplificationsUse the Keynesian aggregate expenditures modelPrices are fixedGDP = DIBegin with private, closed economyConsumption spendingInvestment spendingLO128-*Equilibrium GDPCIg = $20 billionAggregateexpendituresC = $450 billionC + Ig(C + Ig = GDP)EquilibriumpointLO128-*Other Features of Equilibrium GDPSaving equals planned investmentSaving is a leakage of spendingInvestment is an injection of spendingNo unplanned changes in inventoriesFirms do not change productionLO228-*Changes in Equilibrium GDPIncrease ininvestment(C + Ig)0Decrease ininvestment(C + Ig)2(C + Ig)1LO328-*Adding International TradeInclude net exports spending in aggregate expendituresPrivate, open economyExports create production, employment, and incomeSubtract spending on importsXn can be positive or negativeLO428-*Net Exports and Equilibrium GDPAggregate expenditureswith positivenet exportsC + IgAggregate expenditureswith negative netexportsC + Ig+Xn2C + Ig+Xn1Xn1Xn2Positive net exportsNegative net exports450470490LO428-*International Economic LinkagesProsperity abroadCan increase U.S. exportsExchange ratesDepreciate the dollar to increase exportsA caution on tariffs and devaluationsOther countries may retaliateLower GDP for allLO428-*Adding the Public SectorGovernment purchases and equilibrium GDPGovernment spending is subject to the multiplierTaxation and equilibrium GDPLump sum taxTaxes are subject to the multiplierDI = GDPLO428-*Government Purchases and Eq. GDPCGovernment spendingof $20 billionC + Ig + XnC + Ig + Xn + GLO428-*Taxation and Equilibrium GDP45° 490 550 Real domestic product, GDP (billions of dollars)Aggregate expenditures (billions of dollars)$15 billiondecrease inconsumptionfrom a$20 billion increasein taxesCa + Ig + Xn + GC + Ig + Xn + GLO428-*Equilibrium versus Full-EmploymentRecessionary expenditure gapInsufficient aggregate spendingSpending below full-employment GDPIncrease G and/or decrease TInflationary expenditure gapToo much aggregate spendingSpending exceeds full-employment GDPDecrease G and/or increase TLO528-*Equilibrium versus Full-EmploymentReal GDP(a)Recessionary expenditure gapAggregate expenditures(billions of dollars)53051049045° 490 510 530 AE0AE1FullemploymentRecessionaryexpendituregap = $5 billionLO528-*Equilibrium versus Full-EmploymentAE0AE2FullemploymentInflationaryexpendituregap = $5 billionLO528-*