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Keynesian Cross

Keynesian Cross. Add G and NX. What we have so far: AE = C + I = C auto + MPC x Y D = a + bY + I = (a + I) + bY But recall, Y = C + I + G + NX Government: Does whatever it wants to Assume the simplest: discretionary G Remember, purchases not transfers! Financing government:

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Keynesian Cross

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  1. Keynesian Cross Add G and NX

  2. What we have so far: • AE = C + I = Cauto + MPC x YD = a + bY + I = (a + I) + bY • But recall, Y = C + I + G + NX • Government: • Does whatever it wants to • Assume the simplest: discretionary G • Remember, purchases not transfers! • Financing government: • Taxes T = tY • Net tax rate • Marginal propensity to tax • T is ALL net taxes • Taxes net of transfers • Taxes by all levels of government • Disposable: • YD = Y – T = Y – tY = (1 – t)Y

  3. Net Export NX = X – IM • How would what the foreigners buy depend on our income? • X is autonomous • How would IM depend on Y? • IM = mY • Marginal propensity to import • NX = X – mY • Graphically • Shifts in NX • Foreign income => shift X => shift NX • Relative prices • Shift X • Rotate IM • (Shift + rotate) NX • Exchange rate and relative prices

  4. Equilibrium Y • Y = C + I + G + NX • C = a + bYD = a + b(1 – t)Y • I = I • G = G • NX = X – IM = X – mY • AE = C + I + G + NX • = (a + I + G + X) + [b(1 – t) – m]Y • Marginal propensity to spend z = b(1 – t) – m < b • Equilibrium Y, graphically

  5. Multiplier without trade and without government • Multiplier = 1/(1 – MPC) • Because MPC = slope of AE • With trade and government • Slope of AE = b(1 – t) – m = MPC(1 – t) – m

  6. Shifting curves: • Change in (autonomous) X • Change in NX • Fiscal policy • Manipulating G and/or T • Stabilization policy • Potential GDP and fiscal stabilization policy, graphically • Changes in G • Shift in AE • Changes in t • Rotate AE • Because b(1 – t) – m • No talk about production • One says this model shows GDP as demand-determined

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