Lecture Macroeconomics - Chapter 8: Building the aggregate expenditure model

Building the Aggregate
Expenditure Model

Chapter 8
SLIDES PREPARED BY JUDITH SKUCE, GEORGIAN COLLEGE
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

1


In this chapter you will learn
The factors that determine consumption
expenditure and saving
The factors that determine investment
spending
How equilibrium GDP is determined in a
closed economy without a government
sector
About the effects of the multiplier on
changes in equilibrium GDP
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

2


In this chapter you will learn
How international trade affects

equilibrium output
How adding the public sector affects
equilibrium output
The distinction between equilibrium and
full-employment GDP
The limitations of the aggregate
expenditure model
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

3


Chapter 8 Topics
Simplifications
Tools of the Aggregate Expenditures Model
Consumption & Saving
Investment
Equilibrium GDP
Other Features of Equilibrium GDP
Changes in Equilibrium GDP & the Multiplier
International Trade & Equilibrium Output
Adding the Public Sector
Equilibrium vs Full-Employment GDP
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

4

Simplifications
A private closed economy
–
–
–

No government
No taxes
No exports or imports

All saving is personal
– Depreciation is zero

GDP=NDI=PI=DI
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

5


Chapter 8 Topics
Simplifications
Tools of the Aggregate Expenditures Model
Consumption & Saving
Investment
Equilibrium GDP
Other Features of Equilibrium GDP

Changes in Equilibrium GDP & the Multiplier
International Trade & Equilibrium Output
Adding the Public Sector
Equilibrium vs Full-Employment GDP
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

6


Tools of the AE Model
the amount of goods & services
produced & therefore the level of
employment depend directly on the
level of aggregate expenditures
(total spending)
assume excess production capacity
& unemployed labour
price level is constant
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

7


Chapter 8 Topics
Simplifications
Tools of the Aggregate Expenditures Model

Consumption & Saving
Investment
Equilibrium GDP
Other Features of Equilibrium GDP
Changes in Equilibrium GDP & the Multiplier
International Trade & Equilibrium Output
Adding the Public Sector
Equilibrium vs Full-Employment GDP
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

8


Consumption & Saving
The Consumption Schedule
– higher income

higher consumption

The Saving Schedule
– higher income

higher saving
S
S == DI
DI -- C
C

© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

9


Consumption & Saving
consumption
APC =
income
APC
APC ++ APS
APS == 11
saving
APS =
income
change in consumption
MPC =
change in income
MPC
MPC ++ MPS
MPS == 11
change in saving
MPS =
change in income
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

10


Table 8-1
(1)
GDP
(=DI)

(2)
C

370

375

390

390

410

(3)
S
(1)-(2)

(4)
APC
(2)/(1)

(5)

APS
(3)/(1)

(6)
(7)
MPC
MPS
(2)/ (1
(3)/ (1
)
)

=
1.01
-5/370 =-.01
-.01
.75 5/20 = .25
370 - 375- 375/370
15/20= .75
1.01
5= -5
0

1.00

.00

.75

.25

405

5

.99

.01

.75

.25

430

420

10

.98

.02

.75

.25

450

435

15

.97

.03

.75

.25

470

450

20

.96

.04

.75

.25

490

465

25

.95

.05

.75

.25

510

480
495

.94

.06

.75

530

30

.25

35

.93

.07

.75

.25

© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

11


Graphically presented....

Figure 8-2

Consumption

SAVING

C

Consumption
schedule

MPC = Slope of C

DISSAVING
45

o

Saving

Disposable Income

DISSAVING

Saving
schedule

MPS = Slope of S
S

SAVING
390

© 2002 McGraw-Hill Ryerson Ltd.

Disposable Income
Macroeconomics, Chapter 8

12


Nonincome Determinants of
Consumption & Saving
Wealth
Expectations

Taxation
Household Debt

© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

13


Schedule Shifts

Figure 8-4

Consumption

C

45

o

Saving

Disposable Income

S
390

© 2002 McGraw-Hill Ryerson Ltd.

Disposable Income
Macroeconomics, Chapter 8

14


Schedule Shifts

Figure 8-4

Consumption

C1
C
An
increase in
consumption...

45

o

Disposable Income
Saving

S

390
© 2002 McGraw-Hill Ryerson Ltd.

Disposable Income
Macroeconomics, Chapter 8

15


Schedule Shifts

Figure 8-4

Consumption

C1
C
An
increase in
consumption...

45

o

A
decrease
in saving

Saving

Disposable Income

S
S1

Disposable Income
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

16


Schedule Shifts

Figure 8-4

Consumption

C
C2
A
decrease in
consumption...

45

o

Saving

Disposable Income

S
Disposable Income

© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

17


Consumption

Schedule Shifts

Figure 8-4

C
C2
A
decrease in
consumption...

schedules
schedules are
are
relatively
relatively stable
stable

45

o

Saving

Disposable Income

S2

S

An
increase
in saving

Disposable Income
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

18


Chapter 8 Topics
Simplifications
Tools of the Aggregate Expenditures Model
Consumption & Saving
Investment
Equilibrium GDP

Other Features of Equilibrium GDP
Changes in Equilibrium GDP & the Multiplier
International Trade & Equilibrium Output
Adding the Public Sector
Equilibrium vs Full-Employment GDP
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

19


Investment
Expected Rate of Return, r
The Real Interest Rate
– i = nominal rate - rate of inflation

Investment Demand Curve

© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

20


and interest rate, i (percent)

Expected rate of net profit,

r,

Figure 8-5
16
14
12

Investment
demand curve

10
8
6
4
2

ID

0
5

10 15 20 25 30 35 40
Investment (billions of dollars)

© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

21

Shifts in the ID Curve
Acquisition, Maintenance &
Operating Costs
Business Taxes
Technological Change
Stock of Capital Goods on Hand
Expectations
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

22


Investment Schedule
the relationship between
investment & GDP (DI)
assume planned investment is
independent of the level of current
disposable income or real output

© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

23


and interest rate, i (percent)

Expected rate of net profit,

r,

Figure 8-7a
16
14
12

Investment
demand curve

10
8
6
4
2

ID

0
5

10 15 20 25 30 35 40
Investment (billions of dollars)

© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

24


Investment (billions of dollars)

Figure 8-7b

Investment
schedule
20

Ig

GDP (billions of dollars)
© 2002 McGraw-Hill Ryerson Ltd.

Macroeconomics, Chapter 8

25