Economic Concepts and the Multiplier Effect

These flashcards cover essential economic concepts such as the multiplier effect, aggregate consumption function, investment determinants, and the role of inventories in the economy.

What is the concept of the multiplier in economics?

The multiplier shows how initial changes in spending lead to further changes in income and aggregate spending.

What does the aggregate consumption function represent?

It shows how current disposable income affects consumer spending.

What does the marginal propensity to consume (MPC) measure?

MPC measures the increase in consumer spending when disposable income rises by $1.

What is the formula for calculating MPC?

MPC = Δc/Δyd.

If the MPC is 0.6, what is the marginal propensity to save (MPS)?

MPS = 1 - MPC = 1 - 0.6 = 0.4.

How does an increase in investment spending affect real GDP?

It raises real GDP by the same amount as the increase in investment.

What is an autonomous change in aggregate spending?

An initial change in aggregate spending at a given level of real GDP.

What is the formula for the multiplier?

Multiplier = ΔY / ΔAAS = 1 / (1 - MPC).

What role do inventories play in the income-expenditure model?

Changes in inventories help economists understand the direction of the economy.

What happens when planned spending exceeds actual output?

It leads to unplanned inventory investment where firms adjust production.

What are the primary determinants of planned investment spending?

1. Interest rate, 2. Expected future real GDP, 3. Current level of production capacity.

What occurs during a shift in the planned aggregate spending line?

Changes in planned investment or shifts in the consumption function can cause this.

How does consumer confidence affect the aggregate consumption function?

Increased consumer confidence leads to higher expected income, shifting the function up.

What is the aggregate consumption function's form?

C = A + MPC × YD, where C is total consumer spending.

How do changes in expected future income influence consumer spending?

Higher expectations of future income lead to increased current consumer spending.

What happens to the economy if planned aggregate expenditure is less than GDP?

Unplanned inventory investment is positive, indicating overproduction.

Why is investment spending considered a leading indicator of the economy?

It tends to drive booms and busts in the business cycle.

What will happen if the interest rate rises in terms of investment?

Investment spending will likely decrease as fewer projects will be deemed profitable.

What effect does an increase in aggregate wealth have on consumption?

It typically increases autonomous consumer spending.

What is the significance of the permanent income hypothesis?

It suggests that consumer spending is based on expected long-term income rather than current income.

What is the accelerator principle?

It states that a higher growth rate in GDP leads to higher planned investment spending.

What is unplanned inventory investment?

Changes in inventories occurring when actual sales differ from expected sales.

How do changes in inventories signal future economic activity?

They indicate whether firms need to adjust production levels based on sales performance.

What is the paradox of thrift?

Individual savings behavior can lead to a decrease in overall economic activity.

What happens when there is a slump in investment spending?

There will be a significant fall in income-expenditure equilibrium GDP.

How do exports behave in the traditional economy model?

They act like an increase in autonomous spending.

What effect do imports have on the multiplier process?

Imports weaken the multiplier effect as part of spending leaks outside the domestic economy.

What is the expected outcome when consumer spending suddenly increases?

Businesses will likely react by increasing production to meet the new demand.

How can government intervention in corporate bailouts affect the economy?

It may stabilize the economy and protect jobs during downturns.

What is the Keynesian cross?

A diagram that identifies income-expenditure equilibrium as the point where planned aggregate spending equals real GDP.