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Chapter 2 (part 1)

Chapter 2 (part 1). Demand: The goods and services market (IS). 1. The goods and services market. Components of aggregate demand Y = C + I + G + (X – M) That is, in equilibrium: _______________________________. Consumption (C). Consumption.

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Chapter 2 (part 1)

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  1. Chapter 2(part 1) Demand: The goods and services market (IS)

  2. 1. The goods and services market • Components of aggregate demand Y = C + I + G + (X – M) That is, in equilibrium: _______________________________

  3. Consumption (C)

  4. Consumption • Graphical representation in the Y (horizontal) and C (vertical) axis • Alternative functional forms? • What´s endogenous? Exogenous?

  5. Investment (I) • Usual functionalform • _____ : autonomousinvestment (alwaysgreaterorequalto_____) • _____ :marginal propensity to invest with respect tothe interest rate (always between __ and ___) • r : interestrate

  6. Investment • Graphical representation in the I (horizontal) and r (vertical) axis • Alternative functional forms? • What´s endogenous? Exogenous?

  7. Public expenditure (G) • Usual functionalform • Alternativefunctionalforms • Pro-cyciclicalpolicy • Counter-cyclicalpolicy

  8. Net exports (X-M) • If weconsider a closedeconomy: • In an open economy: Usual functionalform: Otherfuntionalforms

  9. 2. The IS curve • The IS curve is the graphical representation of the ____________________________________ • It´s the locus of all combinations of ( , ) such that the ________________________________ is in equilibrium • What do we mean by equilibrium? • ____________ equals __________________ • Which variables are endogenous?

  10. Writing out the functional form of the IS (under usual assumptions) • How to do it: • Start from equilibrium (Y=AD) and write out the functional forms of every component of the IS • Solve for output (Y)

  11. IS: mathematical expressionThe (usual) functional form of the IS • Do it!

  12. IS: mathematical expressionThe (usual) functional form of the IS

  13. Some concepts • Self-containedgoods and servicesmarket • Themultiplier (or fiscal multiplier) • Theautonomousdemandismade up bytheautonomouscomponents of spending, and isthepart of demandthatdoesnotdependon _________

  14. IS: graphical representationHow to draw the IS • Graphical representation in the Y (horizontal) and r (vertical) axis • Calculate the intersections with the axis • Calculate the slope

  15. IS: graphical representationHow to draw the IS • Draw it in the Y-r axis: • What is the assumption behind drawing the IS as a straight line? • We assume the slope to be constant (which may not be true)

  16. IS: graphical representationHow to derive the IS graphically • We will use the “keynesian cross”, which relies on the concepts of actual and planned expenditure • Actual expenditure: the amount hh, firms and the gov´ spend in g&s • Planned expenditure: the amount hh, firms and the gov´ would like to spend in g&s • In a simple model only the _______ actual expenditure can deviate from its planned counterpart. Why?

  17. How to derive the IS graphicallyThe keynesian cross • Total plannedexpenditure in a closedeconomymay be written as: Ifwerepresentitgraphically in the _____ axis

  18. How to derive the IS graphicallyThe keynesian cross • Equmrequires ______. Graphically: • Whathappensifwestart off theEqumpoint?

  19. IS: graphical representationHow to derive the IS graphically using the Keynesian cross

  20. Movements of the ISMathematically • What happens if the government decides to enact expansionary fiscal policy (dG >0)? (assume r stays constant!)

  21. Movements of the ISGraphically • What happens if the government decides to enact expansionary fiscal policy (dG >0)? (assume r stays constant!) • NOTE: the difference btw movement of the curve and movement along the curve

  22. Movements of the IS Economically • What happens if the government decides to enact expansionary fiscal policy (dG >0)? (assume r stays constant!)

  23. Another point of view: I=S • Total savings = privatesavings + publicsavings • Privatesavings (S): byconsumers • Publicsavings: bythegovernment

  24. Another point of view: I=S Equm in the closed economy: Y = C+I+G NOTE: The decision to consume and the decision to save are one and the same. • We can define the marginal propensity to save

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