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The Goods Market Slide #1Econ 302 Macroeconomic Analysis
IntroductionIntroduction
Changes in the demand for goods lead to….
Changes in production, which leads to….
Changes in income, which leads to…
Changes in demand
The Goods Market Slide #2Econ 302 Macroeconomic Analysis
IntroductionIntroduction
The Goods Market Slide #3Econ 302 Macroeconomic Analysis
The Composition of GDPThe Composition of GDP
C -- Consumption Goods and services purchased by
consumers (68% of GDP)
I -- Fixed Investment Nonresidential and residential investment
(15% of GDP)
The Components of Aggregate Production (GDP)The Components of Aggregate Production (GDP)
The Goods Market Slide #4Econ 302 Macroeconomic Analysis
The Composition of GDPThe Composition of GDP
G -- Government Spending Purchases by federal, state, and local
governments. Excludes transfer payments (18% of GDP)
The Components of Aggregate Production (GDP)The Components of Aggregate Production (GDP)
The Goods Market Slide #5Econ 302 Macroeconomic Analysis
The Composition of GDPThe Composition of GDP
X - Q -- Net Exports Exports (X) (11% of GDP) - Imports (Q)
(13% of GDP) X > Q -- trade surplus X < Q trade deficit (2% of GDP)
The Components of Aggregate Production (GDP)The Components of Aggregate Production (GDP)
The Goods Market Slide #6Econ 302 Macroeconomic Analysis
The Composition of GDPThe Composition of GDP
IS -- Inventory Investment Production - sales (1% of GDP)
The Components of Aggregate Production (GDP)The Components of Aggregate Production (GDP)
The Goods Market Slide #7Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
Q- X G I C Z
Total DemandTotal Demand
The Goods Market Slide #8Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
1. All firms produce the same good (The Goods Market)
2. The supply of goods is completely elastic at price P
3. The economy is closed. (X - Q = 0)
AssumptionsAssumptions
The Goods Market Slide #9Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
G I C Z
Therefore,Therefore,
The Goods Market Slide #10Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
The main determinant of C is disposable income (YD)
The consumption function
• C = C(YD)
(+)
Consumption (C)Consumption (C)
The Goods Market Slide #11Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
(+) -- increases in disposable income (YD) leads to increases in consumption (C)
C = C(YD) is a behavioral equation
Consumption (C)Consumption (C)
The Goods Market Slide #12Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
C = C0 + C1YD
C1 = propensity to consume
• Change in C from a dollar change in income
0 < C1 < 1
Consumption (C)Consumption (C)
The Goods Market Slide #13Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
C = C0 + C1YD
C0 = C when YD is zero
How can people consume when YD is zero?
Consumption (C)Consumption (C)
The Goods Market Slide #14Econ 302 Macroeconomic Analysis
Consumption and Disposable IncomeConsumption and Disposable Income
Disposable Income,YD
Co
nsu
mp
tio
n,
c
ConsumptionfunctionC = c0 + C1YD
Slope = c1
The Goods Market Slide #15Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
C = C0 + C1YD
)(consumers)by received trasfers - (Taxes
( income ( Income Disposable
T
- Y)YD )
T- YYD ( )
Consumption (C)Consumption (C)
The Goods Market Slide #16Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
In the U.S., the main taxes paid by individuals are: Income Social Security
Consumption (C)Consumption (C)
The Goods Market Slide #17Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
The main sources of government transfers are Social Security Medicare Medicaid
Consumption (C)Consumption (C)
The Goods Market Slide #18Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
Consumption is a function of Y & T
Higher Y increases C, but less than 1 for 1
Higher T decreases C, but less than 1 for 1
ObservationsObservations
The Goods Market Slide #19Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
or I does not respond to changes in production (Y)
_
I I
Investment (I) (assume exogenous)Investment (I) (assume exogenous)
The Goods Market Slide #20Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
Endogenous Variables Variables that depend on other variables in
the model C is endogenous because it responds to
production (Y) C = C0 – C1 (Y – T)
The Goods Market Slide #21Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
G & T describe fiscal policy
Government Spending (G)Government Spending (G)
Fiscal PolicyFiscal Policy
The choices of taxes and government spending by the government
The Goods Market Slide #22Econ 302 Macroeconomic Analysis
The Demand for GoodsThe Demand for Goods
G & T are exogenous no reliable behavioral role for G & T G & T are determined outside the model
Government Spending (G)Government Spending (G)
The Goods Market Slide #23Econ 302 Macroeconomic Analysis
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
0) Q- (X G I C Z
) T- YCC C 10 (
G I T)- YC C 10 ( Z
Demand for Goods (Z)Demand for Goods (Z)
The Goods Market Slide #24Econ 302 Macroeconomic Analysis
Demand for Goods (Z) depends on income (Y), taxes (T), investment ( ), and government spending (G)
_
I
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
The Goods Market Slide #25Econ 302 Macroeconomic Analysis
Assume Firms do not hold inventories Y = supply of goods
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
EquilibriumEquilibrium
The Goods Market Slide #26Econ 302 Macroeconomic Analysis
Supply of goods (Y) = Demand for goods (Z)
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
Equilibrium occurs when:Equilibrium occurs when:
The Goods Market Slide #27Econ 302 Macroeconomic Analysis
Identity Equations
• Behavioral Equations
• Equilibrium Equations
•
T- YYD
) T-YCC C 10 (
Z Y
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
The Model and Equation TypesThe Model and Equation Types
The Goods Market Slide #28Econ 302 Macroeconomic Analysis
Y = supply Z = Demand = Y = Z @ equilibrium
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
G I T)- YC C_
10 (
G I T)- YC C_
10 ( Y
Finding EquilibriumFinding Equilibrium
The Goods Market Slide #29Econ 302 Macroeconomic Analysis
Recall Demand determines income (production)
and income determines demand
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
Finding EquilibriumFinding Equilibrium
The Goods Market Slide #30Econ 302 Macroeconomic Analysis
1) Algebra to confirm the logic
2) Graphs to build the intuition
3) Words to explain the results
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
Three Steps to Solving a ModelThree Steps to Solving a Model
The Goods Market Slide #31Econ 302 Macroeconomic Analysis
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
The AlgebraThe Algebra
Equilibrium Condition Y=Z
G I T)- YC C Z_
10 (
G I T)- YC C Y_
10 (
The Goods Market Slide #32Econ 302 Macroeconomic Analysis
• Subtracting C1Y from both sides gives:
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
G I TC- YC C Y_
110
G I TC C YC- Y_
101
TC- G I C )C-Y(1 1
_
01
The AlgebraThe Algebra
The Goods Market Slide #33Econ 302 Macroeconomic Analysis
• Dividing both sides by (1 - C1) gives
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
The AlgebraThe Algebra
TC- G I C )C-Y(1 1
_
01
1
1
_
0
1
1
C-1
TC- G I C
C-1
)C-Y(1
TC- G I C
C-1
1 Y 1
_
01
The Goods Market Slide #34Econ 302 Macroeconomic Analysis
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
The Algebra: Y=ZThe Algebra: Y=Z
TC- G I C
C-1
1 Y 1
_
01
) of nt(independe
spending autonomous
Y
TC- G I C 1
_
0
The Goods Market Slide #35Econ 302 Macroeconomic Analysis
Is positive?
C0 and I are positive
G - C1T
• If
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
TC- G I C 1
_
0
positive is then 1, TC- GC and G T 11
The Algebra: Y=ZThe Algebra: Y=Z
The Goods Market Slide #36Econ 302 Macroeconomic Analysis
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
TC- G I C
C-1
1 Y 1
_
01
multiplier the is and 1 C-1
1
1
The Algebra: Y=ZThe Algebra: Y=Z
The Goods Market Slide #37Econ 302 Macroeconomic Analysis
What determines the size of the multiplier?
What does the multiplier imply?
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
QuestionsQuestions
The Goods Market Slide #38Econ 302 Macroeconomic Analysis
The larger the propensity to consume, C1, the larger the multiplier
A change in autonomous spending will change output more than the direct change in autonomous spending
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
AnswersAnswers
The Goods Market Slide #39Econ 302 Macroeconomic Analysis
C0 increases by $1 billion
C1 = 0.6
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
AssumeAssume
The Goods Market Slide #40Econ 302 Macroeconomic Analysis
Change Y = change C0 x multiplier
= $1 billion x
= $1 billion x
= $1 billion x 2.5
= $2.5 billion
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
11
1
C
6.1
1
4.
1
The Goods Market Slide #41Econ 302 Macroeconomic Analysis
Equilibrium in the Goods MarketEquilibrium in the Goods Market
Income,Y
Horizontal Axis:Measures Income, (Y)
The Goods Market Slide #42Econ 302 Macroeconomic Analysis
Equilibrium in the Goods MarketEquilibrium in the Goods Market
Income,Y
Dem
and
(Z
), P
rod
uct
ion
(Y
)
Vertical Axis:Plots demand (Z) & production (Y)
as a function of income
The Goods Market Slide #43Econ 302 Macroeconomic Analysis
Equilibrium in the Goods MarketEquilibrium in the Goods Market
Income,Y
Dem
and
(Z
), P
rod
uct
ion
(Y
)
Recall:Production (Y) income (Y)
Graphically:Production (Y) income (Y)
on a 45o line
The Goods Market Slide #44Econ 302 Macroeconomic Analysis
Equilibrium in the Goods MarketEquilibrium in the Goods Market
Income,Y
Dem
and
(Z
), P
rod
uct
ion
(Y
)45o line
Production
Slope = 1
Y1
Y1
The Goods Market Slide #45Econ 302 Macroeconomic Analysis
Equilibrium in the Goods MarketEquilibrium in the Goods Market
Income,Y
Dem
and
(Z
), P
rod
uct
ion
(Y
)45o line
Production
ZZ
Demand
ZZ depends on1) autonomous spending2) income
The Goods Market Slide #46Econ 302 Macroeconomic Analysis
Equilibrium in the Goods MarketEquilibrium in the Goods Market
Income,Y
Dem
and
(Z
), P
rod
uct
ion
(Y
)45o line
Production
ZZ
Demand
Autonomousspending
Equilibrium point:Y = Z
Slope = 1
A
The Goods Market Slide #47Econ 302 Macroeconomic Analysis
What is the relationship between Z and Y at income levels less than Y and greater than Y?
The Determination ofThe Determination ofEquilibrium OutputEquilibrium Output
Question for DiscussionQuestion for Discussion
The Goods Market Slide #48Econ 302 Macroeconomic Analysis
B
ZZ’
Equilibrium in the Goods MarketEquilibrium in the Goods Market
Income,Y
Dem
and
(Z
), P
rod
uct
ion
(Y
)45o line
Y
ZZ
AY
Y1
Y1
C
DA’
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