Transcript Unit 5—Aggregate Models

Unit 5—Aggregate
Models
Chapters 9, 10 and 11
Time Period: 3 weeks
Graphs: 7
Chapter 9—Building the
Aggregate Expenditures
Model
Aggregate means TOTAL
(aggregate expenditure means total
spending)
Consumption and Saving
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What can a person do with DI?
What is not spent is called savings
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DI – C = S
LOOK AT THE GRAPH ON PAGE 160
C & DI Graph
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The reference line is a 45° line
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Green dots = C
When the green dot falls short of the reference
line, savings has occurred
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Each point is equidistant from the axes
C = DI
Again, DI – C = S
As DI increases both C and S increase
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Direct relationship to the level of income
Household C most of their DI
C Schedule
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Page 161 shows a hypothetical C schedule
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Households spend a larger proportion of a small
income than of a large income
See graph on Page 162
C Schedule Graph
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45° reference line
Shows C and S
Shows DISSAVINGS = occurs at low levels of
income where C exceeds DI & people must borrow
Average Propensities to C & S
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Measures the average C (APC) or S (APS) at
any level of disposable income
APC = C / DI
APS = S / DI
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C%  and S%  as DI 
APC + APS = 1
Marginal Propensities to C & S
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(marginal means extra)
Proportion of any change in income C is called MPC
or income S is called MPS
MPC = change in C / change in DI
MPS = change in S / change in DI
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MPC + MPS = 1
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The only choice people have is to C or to S. An additional
dollar in income must result in a change in C and/or a
change in S.
Practice Worksheet
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Do together and correct in class
Investment (review)
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Spending on new plants, capital equipment,
machinery, construction, etc.
Investment decision weighs marginal benefits
& marginal costs
The expected rate of return = marginal benefit
The interest rate = marginal cost
Expected Rate of Return
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Found by comparing the expected economic
profit (total revenue minus total cost) to cost of
investment to get expected rate of return
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Example in text (page 166)
Woodworker wants to buy equipment for $1,000.
He expects a $100 profit. The expected rate of
return is 10%. In order to make a profit, the
woodworker would not want to pay more than
10% interest on the investment.
The Real Interest Rate
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The real interest rate, i, is the cost of the
investment
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Real interest rate = nominal rate - inflation
Interest rate is either the cost of borrowed
funds or the cost of investing your own funds,
which is income forgone.
If i exceeds the expected rate of return, r, the
investment should not be made
Investment Demand Curve
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Shows an inverse relationship between the
interest rate and amount of investment
As long as r exceeds i, the investment is
expected to be profitable
See graph on page 168
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Investment demand curve is always downward
sloping
Less will be invested if interest rates are high
Self Assessment
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Take the quick quiz on page 168 to assess your
own understanding. 
Shifts in the Investment Demand
Curve
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Movement along the IDC or DIgC occur with
a change in the interest rate
Shifts occur ( to the right,  to the left)
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1. acquisition, maintenance and operating costs
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When cost falls, the r from prospective investment
project rises, shifts the IDC to the right
Higher electricity costs = shift to the left
2. business taxes
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in taxes = shift to the left
Shifts Continued
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3. technological change
Development stimulates investment
 Shift to the right
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4. stock of capital goods on hand
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When firms are overstocked, the r declines
(shifts to the left)
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There is little incentive to invest in new capital
when there is excess production
When firms are under stocked, the r increases
(shifts to the right)
Shifts continued again . . .
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5. Expectations
Optimistic about future sales, the curve will
shift to the right
 Pessimistic outlook = shift to the left
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Instability of Investment
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1. capital goods are durable so spending can
be postponed
2. innovation occurs irregularly
3. profits vary considerably
4. expectations can be easily changed
Classwork! Yeah!
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Page 179
Number 2
Number 3
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A=c&s B=c&s C=c, s & i F=I G=c&s I=c&s
Number 4
Number 5—complete the table and part B only (refer
to table 9.1)
Number 6
 Due today 
Equilibrium GDP
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Equilibrium level of GDP is the level at which
the total quantity of goods produced (GDP) =
the total quantity of goods purchased
GDP = C + Ig
Savings and planned investment are equal
Savings represents a “leakage” from spending
and causes C to be < GDP
Table 9.4
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See table on page 173
See line 8, GDP is $510 billion
C + Ig = 500 billion (disequilibrium)
Businesses have $10 billion of unplanned
inventory investment on top of what was
already planned
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Unplanned portion is a business expenditure
Table 9.4
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See line 5, GDP = $450 billion
Consumer spending is $435 billion
$20 billion is planned investment
Businesses have experienced a $5 billion
unplanned decline in inventory because of
unexpected sales
Self Assessment
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See graph on page 175
Quick quiz on page 175—work with a partner
or on your own  for your own assessment of
understanding
Say Vs Keynes
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Read page 177
Do question 16 on page 180—this will be
turned in. You need to actually draw a PPF for
and label efficiency for both men.