11.4 Other Features of Equilibrium GDP

What are two alternate ways to characterize equilibrium GDP in a private closed economy?

1. Saving (S) equals planned investment (𝐼𝑔)

2. No unplanned changes in inventories

What is saving in the AE model?

A leakage — money not spent on consumption, withdrawn from the circular flow.

What is investment in the AE model?

An injection — spending on capital goods that offsets the leakage from saving.

What happens when saving > planned investment?

• AE < GDP → inventories rise

• Firms cut production → GDP falls toward equilibrium

What happens when investment > saving?

• AE > GDP → inventories fall

• Firms increase production → GDP rises toward equilibrium

At equilibrium GDP, what is true about saving and investment?

S = Ig

Leakage from saving is exactly offset by the injection of planned investment

What do unplanned inventory changes signal?

Disequilibrium — spending doesn’t match output.

What happens when inventories rise unexpectedly?

• AE < GDP → unsold goods pile up

• Firms reduce production → GDP falls

What happens when inventories fall unexpectedly?

• AE > GDP → goods sell faster than produced

• Firms increase production → GDP rises

At equilibrium GDP, what happens to inventories?

No unplanned changes — production matches spending exactly.

What is actual investment made of?

Actual investment = planned investment + unplanned inventory changes

Why is actual investment always equal to saving?

Because unplanned inventory changes adjust actual investment to match saving, even if planned investment ≠ saving.

What is an injection in the aggregate expenditures model?

An injection is spending added to the circular flow of income. In a private closed economy, planned investment (𝐼𝑔) is the key injection. It offsets the leakage caused by saving and helps sustain equilibrium GDP.

If the leakage of saving at a certain level of GDP exceeds the injection of investment, then…

C + ig will be less than GDP and that level of GDP cannot be sustained.

Any GDP for which saving exceeds investment is..

An above-equilibrium GDP.

Conversely, if the injection of investment exceeds the leakage of saving, then..

C + ig will be greater than GDP and drive GDP upward.

In a closed economy, what are two characteristics of equilibrium GDP?

• There are no unplanned changes in inventories.

• Savings and planned investment are equal.

Which of the following are true at equilibrium GDP?

• The total quantity of goods produced equals the total quantity of goods purchased.

• There is no excess of total spending.

• There is no unplanned increase in inventories of goods.

In a private closed economy, two characteristics of GDP at equilibrium are that saving and _________ investment are equal and there are no _________ changes in inventories.

planned, unplanned

__________ is an injection into the income-expenditure circular flow in a private closed economy.

Investment