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Chapter 11: Q1. (page 236)

True or False. The aggregate expenditures model assumes flexible prices.

Short Answer

Expert verified

The statement is false.

Step by step solution

01

Step 1. Model of aggregate expenditures

The model of aggregate expenditures determines the national income of an economy through private consumption, gross investment, government purchases, and net exports.

Y = C + Ig+ G + NX

John Maynard Keynes proposed this model after the Great Depression of the 1930s. It was a major criticism of the classical model of income and output and considered the fall of economic activities during the economic depression of the 1930s.

02

Step 2. Reason for false statement

Keynes noticed that during the depression of the 1930s, the price level did not reduce at all during the crisis. Therefore, the demand for the output produced fell significantly, and the supply exceeded the demand for output, causing inflation. Too much money was chasing too little of the output.

Therefore, Keynes proposed the aggregate expenditure model at fixed prices to determine the equilibrium level of output, income, and employment.

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Most popular questions from this chapter

Assume that the consumption schedule for a private open economy is such that consumption C = 50 + 0.8Y. Assume further that planned investment Ig and net exports Xn are independent of the level of real GDP and constant at Ig = 30 and Xn = 10. Recall also that, in equilibrium, the real output produced (Y) is equal to aggregate expenditures: Y = C + Ig + Xn.

  1. Calculate the equilibrium level of income or real GDP for this economy.

  2. What happens to equilibrium Y if Ig changes to 10? What does this outcome reveal about the size of the multiplier?

Using the consumption and saving data in problem 1 and assuming investment is \(16 billion, what are saving and planned investment at the \)380 billion level of domestic output? What are saving and actual investment at that level? What are saving and planned investments at the \(300 billion level of domestic output? What are the levels of saving and actual investment? In which direction and by what amount will unplanned investment change as the economy moves from the \)380 billion level of GDP to the equilibrium level of real GDP? From the \(300 billion level of real GDP to the equilibrium level of GDP?

Possible Levels of Employment, Millions

Real Domestic Output (GDP = DI), Billions

Consumption, Billions

Saving, Billions (DI 鈥� C)

40

\)240

\(244

-\)4

45

260

260

0

50

280

276

4

55

300

292

8

60

320

308

12

65

340

324

16

70

360

340

20

75

380

356

24

80

400

372

28

Refer to columns 1 and 6 in the table for problem 5. Incorporate government into the table by assuming that it plans to tax and spend \(20 billion at each possible level of GDP. Also, assume that the tax is a personal tax and that government spending does not induce a shift in the private aggregate expenditures schedule. What is the change in equilibrium GDP caused by the addition of government?

(1) Real Domestic Output (GDP = DI), Billions

(2) Aggregate Expenditures, Private Closed Economy, Billions

(3) Exports, Billions

(4) Imports, Billions

(5) Net Exports, Billions

(6) Aggregate Expenditures, Private Open Economy, Billions

\)200

\(240

\)20

\(30

-\)10

$230

250

280

20

30

-10

270

300

320

20

30

-10

310

350

360

20

30

-10

350

400

400

20

30

-10

390

450

440

20

30

-10

430

500

480

20

30

-10

470

550

520

20

30

-10

510

Suppose that a certain country has an MPC of 0.9 and a real GDP of \(400 billion. If its investment spending decreases by \)4 billion, what will be its new level of real GDP?

True or False. If spending exceeds output, real GDP will decline as firms cut back on production.
See all solutions

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