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The Aggregate Expenditures Model
28
McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
Assumptions and Simplifications
• Use the Keynesian aggregate expenditures model
• Prices are fixed
• GDP = DI
• Begin with private, closed economy
• Consumption spending
• Investment spending
LO1 28-2
Equilibrium GDP
C
Ig = $20 billion
Aggregateexpenditures
C = $450 billion
C + Ig
(C + Ig = GDP)
Equilibriumpoint
LO1 28-3
Other Features of Equilibrium GDP
• Saving equals planned investment
• Saving is a leakage of spending
• Investment is an injection of spending
• No unplanned changes in inventories
• Firms do not change production
LO2 28-4
Changes in Equilibrium GDP
Increase ininvestment
(C + Ig)0
Decrease ininvestment
(C + Ig)2
(C + Ig)1
LO3 28-5
Adding International Trade
• Include net exports spending in aggregate expenditures
• Private, open economy
• Exports create production, employment, and income
• Subtract spending on imports
• Xn can be positive or negative
LO4 28-6
Net Exports and Equilibrium GDP
Aggregate expenditureswith positivenet exports
C + Ig
Aggregate expenditureswith negative netexports
C + Ig+Xn2
C + Ig+Xn1
Xn1
Xn2
Positive net exports
Negative net exports450 470 490
LO4 28-7
International Economic Linkages
• Prosperity abroad
• Can increase U.S. exports
• Exchange rates
• Depreciate the dollar to increase exports
• A caution on tariffs and devaluations
• Other countries may retaliate
• Lower GDP for all
LO4 28-8
Adding the Public Sector
• Government purchases and equilibrium GDP
• Government spending is subject to the multiplier
• Taxation and equilibrium GDP
• Lump sum tax
• Taxes are subject to the multiplier
• DI = GDP
LO4 28-9
Government Purchases and Eq. GDP
C
Government spendingof $20 billion
C + Ig + Xn
C + Ig + Xn + G
LO4 28-10
Taxation and Equilibrium GDP
45°
490 550
Real domestic product, GDP (billions of dollars)
Ag
gre
gat
e ex
pen
dit
ure
s (b
illio
ns
of
do
llars
)
$15 billiondecrease inconsumptionfrom a$20 billion increasein taxes
Ca + Ig + Xn + G
C + Ig + Xn + G
LO4 28-11
Equilibrium versus Full-Employment
• Recessionary expenditure gap
• Insufficient aggregate spending
• Spending below full-employment GDP
• Increase G and/or decrease T
• Inflationary expenditure gap
• Too much aggregate spending
• Spending exceeds full-employment GDP
• Decrease G and/or increase TLO5 28-12
Equilibrium versus Full-Employment
Real GDP(a)
Recessionary expenditure gap
Ag
gre
gat
e ex
pen
dit
ure
s(b
illio
ns
of
do
llars
)
530
510
490
45° 490 510 530
AE0
AE1
Fullemployment
Recessionaryexpendituregap = $5 billion
LO5 28-13