1. The Aggregate Expenditures Model10
C H A P T E R
The Aggregate Expenditures Model

2. Aggregate Expenditures Model
Simplifications...
A Private Closed Economy
Defer Government & Taxes
Defer Exports and Imports
Real GDP = DI
Excess Production Capacity
Unemployed Labor Exists
More Aggregate Expenditures Doesn’t Affect Price Level

3. INVESTMENT DEMAND & SCHEDULE Real Domestic Product, GDP
Curve
Investment
Schedule Ig 20
(billions of dollars)
Investment
Expected rate of return, r, and
real interest rate, i (percents) 8 20 20
I D 20
Investment
(billions of dollars)
Real Domestic Product, GDP
(billions of dollars)

4. GDP = C + Ig EQUILIBRIUM GDP Real Domestic Output
Aggregate Expenditures Schedule
Equilibrium GDP
GDP = C + Ig
Disequilibrium
Graphical Analysis…

5. EQUILIBRIUM GDP Ig = $20 Billion C =$450 Billion (C + I g = GDP)
$530
510
490
470
450
430
410
390
370
Equilibrium C
Ig = $20 Billion
Private spending, C + I g (billions of dollars)
C =$450 Billion 45 o o
Real domestic product, GDP (billions of dollars)

6. EQUILIBRIUM GDP Saving and Planned Investment are Equal
Leakage
Injection
No Unplanned Changes in Inventories
Above Equilibrium
Below Equilibrium
Actual Investment

7. CHANGES IN EQUILIBRIUM GDP
AND THE MULTIPLIER
Equilibrium GDP
at Ig0 leveEquilibrium GDP
at Ig1 level of investmentl of investment
510
490
470
450
430
(C + Ig ) 1
(C + Ig ) 0
Increases
in the level
of C + Ig
Private spending (billions of dollars) 45 o o
Real domestic product, GDP (billions of dollars)

8. CHANGES IN EQUILIBRIUM GDP at Ig2 level of investment
AND THE MULTIPLIER
Equilibrium GDP
at Ig2 level of investment
510
490
470
450
430
(C + Ig ) 0
(C + Ig ) 2
Private spending (billions of dollars)
Decreases
in the level
of C + Ig 45 o o
Real domestic product, GDP (billions of dollars)

9. INTERNATIONAL TRADE AND AGGREGATE EXPENDITURES
Net Exports
Positive if exports > imports
Negative if imports > exports
Net Exports and Aggregate Expenditures
C + Ig + ( X – M )
Xn = ( X – M )
C + Ig + Xn

10. INTERNATIONAL TRADE AND AGGREGATE EXPENDITURES
Net Export Schedule
Net Exports and Equilibrium GDP
Positive Net Exports
Negative Net Exports
Graphically…

11. INTERNATIONAL TRADE AND AGGREGATE EXPENDITURES
510
490
470
450
430
Aggregate Expenditures
with Positive Net Exports
C + Ig + Xn1
C + Ig
Private spending (billions of dollars) 45 o o
Real domestic product, GDP (billions of dollars) +5 -5
(billions of dollars)
Net Exports, Xn
Real GDP

12. INTERNATIONAL TRADE AND AGGREGATE EXPENDITURES
510
490
470
450
430
Aggregate Expenditures
with Negative Net Exports
C + Ig
C + Ig + Xn2
Private spending (billions of dollars) 45 o o
Real domestic product, GDP (billions of dollars) +5 -5
(billions of dollars)
Net Exports, Xn
Real GDP

13. INTERNATIONAL ECONOMIC
LINKAGES
Prosperity Abroad
Tariffs
Exchange Rates

14. GLOBAL PERSPECTIVE NET EXPORTS OF GOODS, 2001 Negative Net Exports
Positive Net Exports
Canada
France
Germany
Italy
Japan
United Kingdom
United States
-400
-140
-100
-60
-20 20 60
100
Billions of Dollars
Source: World Trade Organization

15. ADDING THE PUBLIC SECTOR
Simplifying Assumptions
Government Purchases do not Affect Consumption and Investment Spending
All Taxes are Personal
Tax Collections are Fixed
Graphically…

16. ADDING THE PUBLIC SECTOR
Government Purchases and Equilibrium GDP
Government
Spending of
$20 Billion
C + Ig + Xn + G
C + Ig + Xn C
Aggregate Expenditures (billions of dollars) 45 o o
Real domestic product, GDP (billions of dollars)

17. ADDING THE PUBLIC SECTOR
Lump-Sum Tax and Equilibrium GDP
$15 Billion Decrease
in Consumption from
a $20 Billion Increase
in Taxes
C + Ig + Xn + G
Ca + Ig + Xn + G
Aggregate Expenditures (billions of dollars) 45 o o
Real domestic product, GDP (billions of dollars)

18. FULL-EMPLOYMENT GDP Recessionary Gap Recessionary Gap = $5 Billion
AE0
530
510
490
AE1
Recessionary Gap
= $5 Billion
Aggregate Expenditures (billions of dollars)
Full Employment 45 o o
Real domestic product, GDP (billions of dollars)

19. FULL-EMPLOYMENT GDP Inflationary Gap Inflationary Gap = $5 Billion
AE2
Inflationary Gap
= $5 Billion
AE0
530
510
490
Aggregate Expenditures (billions of dollars)
Full Employment 45 o o
Real domestic product, GDP (billions of dollars)

20. Unplanned Changes in Inventories Recessionary Gap Inflationary Gap
FULL-EMPLOYMENT GDP
Injections
Leakages
Unplanned Changes in Inventories
Recessionary Gap
Inflationary Gap

21. U.S. Inflation in the Late 1980s
APPLICATIONS OF THE MODEL
U.S. Recession of 2001
U.S. Inflation in the Late 1980s

22. Does Not Show Price-Level Changes
LIMITATIONS OF THE MODEL
Does Not Show Price-Level Changes
Ignores Premature Demand-Pull Inflation
Limited Real GDP to the Full-Employment Level
Does not Deal with Cost-Push Inflation
Does not Allow for “Self-correction”

23. aggregate expenditures schedule equilibrium GDP leakage injection
KEY TERMS
planned investment
investment schedule
aggregate expenditures schedule
equilibrium GDP
leakage
injection
unplanned changes in inventories
net exports
lump-sum tax
recessionary gap
inflationary gap
BACK
END
Copyright McGraw-Hill/Irwin, 2005

24. AGGREGATE DEMAND AND AGGREGATE SUPPLY
Coming Next:
AGGREGATE DEMAND
AND
AGGREGATE SUPPLY
CHAPTER 11