Output Determination

Aggregate Demand and Aggregate Supply

The consumption and savings function

CONSUMPTION FUNCTION

relationship between consumption and income

slope čMARGINAL PROPENSITY TO CONSUME

SAVINGS FUNCTION relationship between

consumption and income

SlopečMARGINAL PROPENSITY TO SAVE

Y

CMPC

Y

SMPS

45-Degree Guideline

Assumption: prices in economy are given and constant

45o line means, that the value of income equals to the value of spending

at point E, the quantity of goods supplied equals to the quantity demanded at given level of prices

The Multiplier

a number by which the change in investment must be multiplied in order to determine the resulting change in total output

larger that 1 because any given change in investment demand sets off further changes in the quantity of consumption goods demanded

MPC

1

1

Multiplier – example MPC = 0,75

Step Income Expenditure

1 100 investment

2 100 75 consumption

3 75 56,25 consumption

. . . .

. . . .

x 400 total

AGREGATE DEMAND

the amount of final products that will be demanded in given year by all economic participants

describes a relationship between and INDEX of prices and an AGREGATE of the final products demanded in a nation instead of a relationship between the price and quantity of a single good

AD curve = a graph that shows how the amount of aggregate domestic production demanded, measured by real GDP will vary with the price level

Change in AD

Factors of change increase in AD

Real interest rates decrease

The quantity of money in circulation Increase

An exchange rate Depreciation

A level of wealth Increase

Government purchases Increase

Tax rates decrease

Government transfers Increase

Expectations about the future Improved

Income and other economic condition in foreign nations

Higher income + improvements in economic conditions

Reasons for the inverse relationship between the aggregate

quantity demanded and the price level

1. the real wealth effect

2. the real interest rate effect

3. the foreign trade effect

AGGREGATE SUPPLY

how much products and services are sellers willing and able to produce in a given year

CHANGES IN AS:

- changes in input prices (without affecting potential real GDP)

- changes in quantity and/or productivity of inputs (impact on potential real GDP)

SEGMENTS OF THE AS

classical approach – AS is vertical (assumes fully flexible prices)

keynesians approach –upward sloping AS (assumes that the prices are rigid )

neokeynesians approach – combines classical and keynesians model čstrictly distinguish short-and long term AS curve

MACROECONOMIC EQUILIBRIUM= the aggregate quantity demanded equals the aggregate quantity supplied

RECESSIONARY GDP GAP:

ča decrease in AD can result in a decrease in equilibrium real GDP

INFLATIONARY GDP GAP

čan increase in AD puts upward pressure on equilibrium real GDP and the price level

Examples:

1) Assuming MPC = 0,5; what sort of initial change in investment should occur, in order to increase output by 1000 mld. EUR?

2) Assuming, that investment demand has increased by 1000 mld EUR. MPC is constant at level of 80 %. Calculate the multiplier and enumerate the resulting change in output. What will happen, if MPS increases to 50 % in economy?

Use the following items to calculate:

a) Personal consumption expanditure b) Gross private domestic investmentc) Net export d) GNPe) NNP

1) Expenditure on durable goods 388,32) Expenditure on non-durable goods 932,73) Expenditure on services 1441,34) Fixed investment 675,15) Change in business inventories 11,46) Government expenditure 865,37) Exports 3738) Imports 478,79) Depreciation 455,1

Explain impacts of following situations on ASxAD

1) The government has decreased the tax rate2) An import of substitutes from foreign countries is banned3) The government has increased the amount of final products

purchased 4) The government has decreased social pensions 5) Economic participants expect economic growth 6) Increase in nominal wages without being followed by increase in

productivity of labour