Keynes' Model of Output and Employment

Vocabulary flashcards based on lecture notes on Keynes' Model of Output and Employment.

National Income (NI)

Income payments for factor of production.

Aggregate Expenditure (AE)

Flow of spending for the goods and services.

Circular Flow

Total spending (AE) and total supply (NI) are always equal. Aggregate Expenditure (total spending) is equal to National Income (domestic product). AE = NI

Leakages

Reduces the flow of income (Savings, Taxes, Imports)

Injections

Increases the flow of income (Investments, Government Expenditures, Exports, Transfer Payments)

Planned Investment

Intended investment in plant, machinery, inventories, and residential real estate.

Unplanned Investment

Unintended changes in inventories.

Positive Unplanned Investment

Occurs due to surpluses, where AE < NI (increase in inventories) and Investment < Savings (private closed economy).

Negative Unplanned Investment

Occurs due to shortages, where AE > NI (decrease in inventories) and Investment > Savings (private closed economy).

Macro-equilibrium

AE = NI or total demand = total production or supply (unplanned investment = 0). Therefore, I = IP (planned investment)

Neoclassicals

Aggregate Demand (AD) = Aggregate Supply (AS) with full and efficient employment of land, labor and capital goods. Requires flexible prices.

John Maynard Keynes

Argues equilibrium is possible, AE = NI (but not necessarily at full employment of all resources).

Keynes’ Policy

Advocates government interference in the market when needed in order to secure equilibrium at full employment and stability of prices.

Effective Demand

Main tool of analysis used by Keynes to explain how it is possible to have equilibrium but not full employment

Aggregate Expenditure

AE = C + I + G + (X – M), in a private closed economy AE = C + I

Disposable Income (DI)

Primary determinant of consumption. DI -> C or Yd -> C, C = f(DI) (Consumption function - Positive relationship)

Marginal Propensity to Consume (MPC)

The ratio of the change in consumption to the change in disposable income. MPC = DC/DDI or MPC = DC/DYd

Marginal Propensity to Save (MPS)

The fraction of each additional dollar of disposable income not spent, that is, saved. MPS = D S/ DDI

Keynes’ Consumption Equation

C = a + bYd, where a = autonomous consumption and b = MPC

Autonomous Consumption

Consumption that occurs when income is zero, funded from savings or loans.

Induced Consumption

Consumption that depends on the current level of income.

Fixed Investment

Purchases of new plant and equipment.

Inventory Investment

Changes in the stocks of finished goods, goods in process, and raw materials.

Interest Rate (i)

The price of money, affects investment decisions. There is an inverse relationship between interest rate and the level of investment

aggregate expenditure equation

AE = C + I, AE = (100 + 0.75DI) + 300, AE = 400 + 0.75DI