Question

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Keynesian Cross ROUND ALL CALCULATIONS TO TWO (2) DECIMAL PLACES a. (15 pts) Please draw the Keynesian Cross assuming the following information. Be sure to specify at what point consumption and disposable income are equal. Marginal Propensity to Consume 73 Autonomous Consumption $175 b. (5 pts) Assume that your disposable income is $965. How much are you consuming? Are you saving or dissaving? C. (10 pts) Assume that autonomous consumption increases to $490. Please illustrate this change on graph from part a. Again, you must specify at what point consumption and disposable income are equal. d. (5 pts) Based on the change in part c, illustrate what will happen to aggregate demand NOTE: Only 1 file can be uploaded for this question. If you have any trouble uploading the file it must be labeled and attached in the assignment comments. I do not accept any files sent via email.

Answer 1

ANSWER: The aggregate expenditure of the economy is consumption plus government expenditure plus investment expenditure plus net export That is AE-C+IG+NN. .) For simplicity me assume that apart from consumption all other component of aggregate expenditure is autonomous. Thus, the aggregate expenditure depends on the consumption function. The slope of the aggregate expenditure is equal to MPC. The marginal propensity to consume (MPC) is the additional amount of consumption results from one additional unit of income This is given as MPC Here ΔC change in consumption; and Δ Y-change in disposable income. The MPC lies between 0 to 1 Assuming i=G-NXe0 Here Č is autonomous consumption and Y is disposable income Assuming C is 174 and o-0.73, the aggregate expenditure is given as AE = 175 + 0.731. In equilibrium aggregate expenditure is equal to total output. That is AE=Y or, 175+0.739.= Y. or, 175 0.27Y Y = 648.15 To determine this, we draw a 45 ine, each point on this line indicates AEY. The slope of the 45° line is 1, the slope of AE line is MPC which lies between 0 and 1. Thus the AE line cut the 45 line from below and equilibrium occurs at the point where the AE schedule cut the 45 line. This is shown in the figure below; here the AE line cut the 45 line at E, the equilibrium occurs at E.

AE AE The aggregate expenditure is given as AE 175+0.73Y Assuming Y- 985, AE 175+0.73(965) 879.45 With this aggregate expenditure the equilibrium income should be 648.15, the aggregate expenditure here is 879.45 that is greater than the equilibrium income. As expenditure rises over ncome the person starts borrowing to fund the extra expenditure. therefore, THE person DISSAVES C. Assuming Cis 490 and o-0.73, the aggregate expenditure is given as AE-490+0.73Y In equilibrium aggregate expenditure is equal to total output. That is or, 490+0.73), = Y or, 490-0.27Y Y = 1814.82 To determine this, we draw a 45° line, each point on this line indicates AE = Y. The slope of the 45 line is 1, the slope of AE line is MPC which lies between 0 and 1. Thus the AE line cut the 45° line from below and equilibrium occurs at the point where the AE schedule cut the 45Pline. This is shown in the figure below, here the AE line cut the 45 line at E, the equilibrium occurs at E.

AE YEAE AE AE 490 0 648.15 1814.82 The increase in autonomous consumption increases aggregate expenditure. Thus, the aggregate expenditure curve will shift up to AEi as shown in the figure 1 above. The new equilibrium will occur at F and real GDP will rise to Y=1814.82. The aggregate demand is the inverse relationship between price level and the real GDP. As price level falls the goods and services become cheaper and the people consume more. The aggregate expenditure curve shifts upward and real GDP increases. Thus, as price level fall the real GDP increases Now if the autonomous part of aggregate expenditure rises, this also causes the aggregate expenditure curve to shift upward. As the AE curve shifts the real GDP increases. But as the price level remains the same this increase implies a shift in the aggregate demand curve upward.