Aggregate Spending:

C = Consumption

I = Planned Investment

G = Government Purchase

NX = (X - IM) = Net Exports

 

DY = C + I + G + NX

Where

DY = Aggregate Output Demanded

THE CONSUMPTION FUNCTION:

Had previously seen in Ch. 9:

Private sector saving function:

SP = g(DI, , ...)

Since DI (disposable income) = C + SP

Get:

C = f (DI, Real Net Wealth, , ... )
where:

DI = (Y - TN)

(given the simplifying assumptions we have made).

Recall that TN is net taxes.

MPC =

Real Net Wealth = (Nominal Net Wealth)/P

I = h(, r)

Where

I = planned or desired (physical) investment.

r = the expected rate of return on the investment

The Wealth Effect:

M/P = real money balances

(Money balances measured in terms of how many goods and services they will buy, rather than in number of dollars.)

These are part of real net wealth.

Get following result if Price Level changes DOWNWARD or UPWARD:

Remember: we are assuming that M is being held constant.

 

 

 

 

 

THE INTEREST RATE EFFECT:

Recall that when P decreases, demand for money decreases and vice versa:

THE FOREIGN TRADE EFFECT:

The effect of a change in P on r is the same as for the Interest Rate Effect. Then we get:

The reasons for this relationship is explained in Chapter 19.

If C, I, or NX change due to a change in the P level, this is shown by a movement along the AD curve, not a shift.

If C, I, G, or NX change for any reason other than a change in the P level, the AD curve will shift.

The Simple Spending Multiplier:

Simplifying assumptions underlying the simple spending multiplier.

1. The price level remains unchanged.

2. The interest rate remains unchanged.

3. Net Taxes (TN) remain unchanged as Y changes.

4. NX remains unchanged as Y changes.

DEFINITION:

AUTONOMOUS AGGREGATE SPENDING (AAS) IS AGGREGATE SPENDING (C, I, G, and NX) that is not affected by Y and does not change as a result of a change in Y.

Since this change in aggregate output demanded is at a given P level, it gives us the size of the shift in the aggregate demand curve.