1. Chapter 3
The Goods Market
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2. Chapter Topics The Composition of GDP The Demand for Goods
The Determination of Equilibrium Output
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3. Introduction
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4. The Composition of GDP C -- Consumption I -- Fixed Investment
The Components of Aggregate Production (GDP)
C -- Consumption
Goods and services purchased by consumers (68% of GDP)
I -- Fixed Investment
Nonresidential and residential investment (15% of GDP)
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5. The Composition of GDP G -- Government Spending
The Components of Aggregate Production (GDP)
G -- Government Spending
Purchases by federal, state, and local governments. Excludes transfer payments (18% of GDP)
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6. The Composition of GDP X - Q -- Net Exports
The Components of Aggregate Production (GDP)
X - Q -- Net Exports
Exports (X) (11% of GDP) - Imports (Q) (13% of GDP)
X > Q -- trade surplus
X < Q trade deficit (2% of GDP)
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7. The Composition of GDP IS -- Inventory Investment
The Components of Aggregate Production (GDP)
IS -- Inventory Investment
Production - sales (1% of GDP)
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8. The Demand for Goods
Total Demand
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9. The Demand for Goods Assumptions
1. All firms produce the same good (The Goods Market)
2. The supply of goods is completely elastic at price P
3. The economy is closed. (X - Q = 0)
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10. The Demand for Goods
Therefore,
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11. The Demand for Goods Consumption (C)
The main determinant of C is disposable income (YD)
The consumption function
C = C(YD)
(+)
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12. The Demand for Goods Consumption (C) C = C0 + C1YD
C1 = propensity to consume
Change in C from a dollar change in income
0 < C1 < 1
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13. Consumption and Disposable Income
Consumption, c
Consumption
function
C = c0 + C1YD
Slope = c1
Disposable Income,YD
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14. The Demand for Goods Consumption (C) C = C0 + C1YD
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15. The Demand for Goods Consumption (C) C = C0 + C1YD
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16. The Demand for Goods Consumption is a function of Y & T
Observations
Consumption is a function of Y & T
Higher Y increases C, but less than 1 for 1
Higher T decreases C, but less than 1 for 1
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17. The Demand for Goods Investment is an exogenous variable
Exogenous variables
Variables that are assumed to be given and are not explained within the model
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18. The Demand for Goods
Investment (I)
or I does not respond to changes in production (Y)
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19. The Demand for Goods Endogenous Variables
Variables that depend on other variables in the model
C is endogenous because it responds to production (Y) C = C0 – C1 (Y – T)
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20. The Demand for Goods G & T are exogenous Government Spending (G)
no reliable behavioral role for G & T
G & T are determined outside the model
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21. The Determination of Equilibrium Output
Demand for Goods (Z)
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22. The Determination of Equilibrium Output
Assume
Firms do not hold inventories
Y = supply of goods
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23. The Determination of Equilibrium Output
Equilibrium occurs when:
Supply of goods (Y) = Demand for goods (Z)
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24. The Determination of Equilibrium Output
The Model and Equation Types
Identity Equations
Behavioral Equations
Equilibrium Equations
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25. The Determination of Equilibrium Output
Finding Equilibrium
Y = supply
Z = Demand =
Y = Z (equilibrium)
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26. The Determination of Equilibrium Output
The Algebra
Equilibrium Condition Y=Z   
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27. The Determination of Equilibrium Output
The Algebra
Subtracting C1Y from both sides gives:
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28. The Determination of Equilibrium Output
Dividing both sides by (1 - C1) gives
The Algebra   
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29. The Determination of Equilibrium Output
The Algebra: Y=Z
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30. The Determination of Equilibrium Output
The Algebra: Y=Z
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31. The Determination of Equilibrium Output
Question for Discussion
Would a change in I, G, or T have the same impact on Y?
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32. Equilibrium in the Goods Market
45o line
Production
Demand (Z), Production (Y)
Slope = 1 Y1 Y1
Income,Y
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33. Equilibrium in the Goods Market
45o line
Production
Slope = 1 ZZ A
Demand (Z), Production (Y)
Demand
Equilibrium point:
Y = Z
Autonomous
spending
Income,Y
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34. Equilibrium in the Goods Market
45o line B
ZZ’ Y1 C D A’ Y ZZ A
Demand (Z), Production (Y)
Income,Y
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35. End of Chapter
The Goods Market
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