Chapter 11 Summary Macro

Macroeconomics eBook

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Chapter11: The Aggregate Expenditures Model

Summary

1. The aggregate expenditures model views the total amount of spending in the economy as the primary factor determining the level of real GDP that the economy will produce. The model assumes that the price level is fixed. Keynes made this assumption to reflect the general circumstances of the Great Depression, in which declines in output and employment, rather than declines in prices, were the dominant adjustments made by firms when they faced huge declines in their sales. 2. For a private closed economy the equilibrium level of GDP occurs when aggregate expenditures and real output are equal or, graphically, where the C + Ig line intersects the 45° line. At any GDP greater than equilibrium GDP, real output will exceed aggregate spending, resulting in unplanned investment in inventories and eventual declines in output and income (GDP). At any belowequilibrium GDP, aggregate expenditures will exceed real output, resulting in unplanned disinvestment in inventories and eventual increases in GDP. 3. At equilibrium GDP, the amount households save (leakages) and the amount businesses plan to invest (injections) are equal. Any excess of saving over planned investment will cause a shortage of total spending, forcing GDP to fall. Any excess of planned investment over saving will cause an excess of total spending, inducing GDP to rise. The change in GDP will in both cases correct the discrepancy between saving and planned investment. 4. At equilibrium GDP, there are no unplanned changes in inventories. When aggregate expenditures diverge from real GDP, an unplanned change in inventories occurs. Unplanned increases in inventories are followed by a cutback in production and a decline of real GDP. Unplanned decreases in inventories result in an increase in production and a rise of GDP. 5. Actual investment consists of planned investment plus unplanned changes in inventories and is...