THE KEYNESIAN MODEL: PART ONE

AGGREGATE DEMAND IN THE PRIVATE SECTOR:
THE KEYNESIAN MODEL: PART ONE

In the Keynesian Consumption Function, if people receive $1,000 in additional income, will they increase their consumption spending by $1,000, more than $1,000, or less than $1,000?

• Less than $1,000, since MPC <>

When the economy is in equilibrium, how are spending and income related? Investment and savings?

• Spending = Income and Investment = Savings.

What does the 45 degree line represent? How does it help you find equilibrium?

• The set of points at which the values on the vertical and horizontal axes are equal. Since income is on the horizontal axis and spending in on the vertical axis, it crosses the point on the total spending curve at which spending equals income.

What is the difference between a change in autonomous spending and an induced change in spending?

• Change in autonomous spending is the change in spending if income does not change. Induced changes in spending occur because income changes.

How can spending go up if the price level falls?

• When the price level falls, the real balance effect causes an increase in real spending. So even if nominal spending falls (such that fewer dollars are spent), more real dollars will be spent.

What is the leakage from the economy described in this chapter? What is the injection?

• Saving is a leakage, and desired investment spending is an injection.

What is the main variable that changes in the Keynesian model to ensure that the economy reaches equilibrium?

• Income (and output). Keynes assumed that businesses facing inadequate demand would reduce their output and employment ( and thus reduce the income they pay out) instead of reducing their prices.

How will an increase in wealth shift the total spending curve?

• The total spending curve will shift up and to the left.

How will an increase in the real interest rate shift the total spending curve?

• Investment spending will fall: The total spending curve will shift down and to the right.

How will an increase in the price level shift the total spending curve?

• The real balance effect will reduce real consumption spending. The total spending curve will shift down and to the right.

Copyright 2008 by Sujanto Rusli
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