1. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-1 Chapter 5 Spending and output in the short run

2. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-2 Learning objectives 1.What is the key assumption of the basic Keynesian model? 2.What are the four components of the economy’s planned aggregate expenditure? 3.What is the consumption function? 4.In what way is planned aggregate expenditure linked to aggregate output? 5.What is meant by equilibrium output?

3. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-3

4. Pre-Keynesian ideas: Classical ideas Classical economists argued: –There would never be excess production because firms would cut prices to sell it. –There would never be persistent unemployment because workers would cut their wages to keep and get jobs. –Fluctuations in demand would be accommodated by flexible prices and wages without changes in output and employment. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-4

5. Pre-Keynesian ideas: Classical ideas (cont.) Classical ideas ignore the reality of depressions and long-term unemployment. In the short run: –unemployed workers do not cut their wages –firms accommodate a cut (rise) in demand by reducing (increasing) output and employment, not by reducing (increasing) prices. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-5

6. Why prices are not fully flexible Price rises involve ‘menu’ costs, which are the costs involved in changing prices and informing customers of those changes. Firms typically set a price, and meet the demand at that price for a period of time. Sustained changes in demand will make firms change their prices eventually, to bring production back to normal capacity. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-6

7. Keynesian model applies to the short run The Keynesian model only applies to the short run; the time in which firms do not change their prices. As prices don’t change in the short run in this model, there is no distinction between real and nominal variables. In the short run, nominal changes are real changes. This does not hold when we discuss the long run later, when prices do adjust. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-7

8. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-8

9. Aggregate Expenditure Planned Aggregate Expenditure (PAE) –Total planned spending on final goods and services AE = C + I + G + NX where C = Consumption, I = Investment, G = Government spending, NX = Net exports –Note that net exports, X – M, is aggregate spending on domestic goods and services. This is overall spending minus imports. To simplify, if we now assume that all imports are purchased by households, we can rewrite the equation in a form that will be very useful throughout the rest of this chapter: AE = C d + I + G + X (The term C d represents consumption spending on domestically produced goods and services. It is equal to overall consumption expenditure, C, less imports, M, or C = C d + M.) Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-9

10. Planned versus actual expenditure Planned spending can differ from actual spending. Inventory refers to goods produced by firms left unsold and is part of the firm’s investment. Some of this inventory investment may be planned, and some unplanned. –A firm’s actual investment in inventory is comprised of planned inventory investment and unplanned inventory investment. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-10

11. Actual and planned investment Let I P denote the firm’s planned investment including a level of planned inventory investment. If sales were less than expected, then unsold stock remained in their warehouse leading to: Actual investment > Planned investment I > I P If sales were greater than expected, and more stock sold so they had to run down their stocks in their warehouse, leading to: Actual investment < Planned investment I < I P Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-11

12. Planned aggregate spending Because firms meet the demand for their product at preset prices, their actual investment may differ from their planned investment. However, planned expenditure for households, governments and net exports is likely to be reasonably the same. The equation that defines planned aggregate expenditure is: PAE = C d + I P + G + X Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-12

13. Consumer spending and the economy Consumption function: C d = C + c(Y – T ) –Exogenous consumption, C, is the level of consumption independent of the income. –Induced consumption, c(Y – T), is the level of extra consumption induced by extra disposable income. –Disposable income, (Y – T), is the after-tax income. –The parameter, c, is marginal propensity to consume (MPC) or a measure showing how each extra dollar would be partly spent and partly saved. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-13

14. A consumption function Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-14 Figure 5.1 A consumption function

15. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-15

16. Planned aggregate expenditure (PAE) and output Example: Where C = 620, c = 0.8, T = 250, I P = 220, G = 300, X = 40 C d = 620 + 0.8 (Y – T) and PAE = C d + I P + G + X = [620 +0.8(Y – 250)] + 220 + 300 + 40 = (620 – 200 + 220 + 300 + 20) + 0.8 Y = 980 + 0.8 Y – PAE has an exogenous component; in this example it is 980. – PAE also has an induced component; in this example, an increase in Y of $1 induces an increase in PAE of 80 cents. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-16

17. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-17

18. Short-run equilibrium output Equilibrium output is the level of output that does not have a tendency to expand or contract. In the short run: Y = PAE For equilibrium to occur, any injections of expenditure into the economy are exactly matched by any withdrawal of expenditure from the economy. –Injections refer to all sources of exogenous expenditure in the economy. –Withdrawals refer to that part of income not used for consumption purposes. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-18

19. Circular flow of income The economy’s national income which can be equivalently measured using the production, expenditure or income approaches. Short-run equilibrium output: INJ P = WD S + T + M = I P + G + X Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-19

20. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-20

21. Consumption in the two-sector model Assume a two-sector economy consisting of households and firms. Households are described by a consumption function: C = C + cY –Note T = 0 as there is no government sector Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-21

22. Savings in the two-sector model In a two-sector model the savings function can be derived from the consumption function: S = Y – C = Y – (C + cY) = Y – C – cY = –C + (1 – c)Y The intercepts of C and –C can be thought of like this: if no income was being earned in the economy, a certain level of consumption, C, would occur, funded through running down savings. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-22

23. Two-sector consumption and savings functions Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-23 Figure 5.3 The two-sector consumption and saving functions

24. Investment in the two-sector model Investment is the only injection of spending in the two-sector model. In the Keynesian model, investment is regarded as exogenously determined by: –the level of interest rates –entrepreneurs’ expectations of the future. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-24

25. Two-sector investment function Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-25 Figure 5.4 The investment function

26. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-26

27. The 45-degree diagram The 45-degree diagram, or Keynesian cross diagram, shows the equilibrium level of output, PAE = Y. –The 45-degree line marks equal distances along the axis for GDP and the axis for PAE. The point where a given PAE line cuts the 45-degree line represents Y = PAE. –At this point, planned expenditure is equal to actual expenditure; there is no reason to increase or decrease the level of production. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-27

28. The PAE schedule and short-run equilibrium Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-28 Figure 5.7 The PAE schedule (two-sector economy)

29. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-29

30. Withdrawals and injections in the two- sector model Equilibrium in the two-sector model can also be illustrated using the withdrawals and injections approach. –Short-run equilibrium: injections (investment) is equal to withdrawals (savings). –Short-run disequilibrium:  If savings were greater than investment: Households’ spending is less than businesses expected and inventories would build up.  If savings were less than investment: Households’ spending is more than businesses expected, and inventories would fall. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-30

31. The economy out of equilibrium Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-31 Figure 5.10 The economy out of equilibrium

32. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-32

33. Equilibrium in the two-sector economy Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-33 Figure 5.11 Equilibrium in the two-sector economy

34. Paradox of thrift An implication of the Keynesian model is that: –an attempt by the community to increase saving will fail –the economy will be worse off as a result of the attempt. Increasing the level of saving (or thriftiness) at each level of income will shift the consumption function, and therefore PAE, down. Equilibrium GDP occurs at a lower GDP, and savings at same level as before due to a lower Y. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-34

35. Paradox of thrift (cont.) Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-35 Figure 5.13 The paradox of thrift

36. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-36

37. The four-sector model A full-fledged four-sector model includes: –The household sector: consumption ( C ) –The firm sector: planned investment ( I P ) –The government sector: government spending ( G ) –The foreign sector: export ( X ) The four-sector PAE is given by: PAE = C d + I P + G + X Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-37

38. Assumptions in the four-sector model Additional assumptions are: 1.Taxes consist of an exogenous component unrelated to income, T bar, and a component that depends on the level of income: T = T + tY. 2.Consumption depends on after-tax income: C d = C + c(Y – T) = C + c(Y – T – tY) = C – cT + c(1 – t)Y 3.Import spending increases with income: M = m(1 – t)Y 4.Planned investment, government spending and exports are all assumed to be exogenous. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-38

39. Equilibrium in the four-sector model For simplicity, assuming T = 0 : PAE = C d + I P + G + X = C − cT + I P + G + X + c(1 − t)Y Equilibrium output occurs when: – PAE = Y ; except PAE now includes G and X –Withdrawals equal to planned injections S + T + M = I P + G + X Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-39

40. Equilibrium in the four-sector model (cont.) Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-40 Figure 5.14 Equilibrium in the four-sector economy

41. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-41

42. Planned spending and the output gap The Keynesian model shows how spending in the economy can lead to output gaps. Example: Suppose we have c = 0.85, m = 0.01, t = 0.06, T = 0 and C + G + X = 960. We can then write: PAE = 960 + 0.8 Y At equilibrium, PAE = Y e = Y so we can say Y e = 960 + 0.8 Y e ; therefore Y = 4800 Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-42

43. Planned spending and the output gap (cont.) If potential output, Y*, also equals 4800 then the output gap is Y* − Y = 0 and there will be full employment. Suppose households become more pessimistic about the future and reduce their spending by 10 units at every level of Y. As the level of exogenous expenditure has reduced by 10 units, the expression becomes: PAE = 950 + 0.8 Y, shifting the PAE line down and reducing equilibrium output. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-43

44. A decline in planned spending leads to a contraction Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-44 Figure 5.15 A decline in planned spending leads to a contraction

45. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-45

46. The income-expenditure multiplier Recall the earlier example, a 10-unit decline in PAE led to a 50-unit decline in Y e. –That is, a change in exogenous expenditure causes a shift in PAE and Y e is changed by a multiple of that shift. The income-expenditure multiplier –The change in exogenous spending directly reduces Y. Lower Y induces further reductions in spending, leading to an output significantly lower than the decline in spending that started it. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-46

47. The size of the multiplier Using the PAE function in the four-sector model, the exogenous and the induced components are: PAE = C + I P + G + X + c(1 – t)Y The expression c(1 – t) is the economy’s overall marginal propensity of expenditure on domestically produced goods and services. –Note that c(1 – t) < 1. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-47

48. The size of the multiplier (cont.) Let k = c(1 – t) –Then a 1-unit decrease in exogenous spending will lead to a 1-unit decrease in spending and income in the first round, a k x 1 decrease in the second round, k x k = k 2 in the third round, k 3 in the fourth round, and so on. Therefore, the short-run impact of a 1-unit decrease in exogenous expenditure is a total decrease in income and spending of: (1 + k + k 2 + k 3 + ….. ) = 1/(1 – k) = 1/[1 – c(1 – t)] Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-48

49. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-49

50. Stabilisation policy An important outcome of the Keynesian model is that contractions and recessions are caused by inadequate demand. Policies used to affect planned aggregate expenditure, to eliminate output gaps, are called stabilisation policies. –Expansionary policies are aimed at increasing spending and output to close contractionary gaps. –Contractionary policies are aimed at reducing spending and output to close expansionary gaps. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-50

51. Fiscal policy and monetary policy Two major tools of stabilisation policy are fiscal policy and monetary policy. –Fiscal policy refers to decisions about government spending and tax collections, and will be discussed next. –Monetary policy refers to decisions about the level of interest rates in the economy, and will be discussed a little later. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-51

52. Chapter organisation 5.1An introduction to the Keynesian model 5.2Aggregate expenditure 5.3Planned aggregate expenditure and output 5.4Short-run equilibrium output 5.5Consumption and investment in the two-sector model 5.6The 45-degree diagram 5.7Withdrawals and injections 5.8Equilibrium and disequilibrium 5.9 The four-sector model 5.10Planned spending and the output gap 5.11The multiplier 5.12Stabilising planned spending Summary Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-52

53. Summary Short-run equilibrium occurs when planned aggregate expenditure is equal to the level of output. Changes to consumption and planned investment ensures that an economy returns to its equilibrium over time. The size of the multiplier is a key determinant of equilibrium adjustment. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-53

54. Summary (cont.) Paradox of thrift refers to the situation in which the economy as a whole is made worse off by an increase in household saving. Stabilisation policies are designed to bring the economy from disequilibrium back to equilibrium. Copyright  2011 McGraw-Hill Australia Pty Ltd PowerPoint slides to accompany Principles of Macroeconomics 3e by Bernanke, Olekalns and Frank 5-54