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ECO102H1 (155)
Lecture

# ECO100 - JAN 30 National Income Determination, simple model, investment(inventory)

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School
University of Toronto St. George
Department
Economics
Course
ECO102H1
Professor
James Pesando
Semester
Fall

Description
1. National Income Determination ● Recall GDP measures both National output and income ● GDP = Y = Ca + Ia + Ga + Xa – Ma ○ expenditure approach ● How do we determine equilibrium level of GDP? ● 1)Equilibrium when price level is fixed ● 2) Later: SR equilibrium with flexible prices ● 3) Even later: LR equilibrium with flexible prices How to reach Equilibrium Y when prices are fixed ● When the desired expenditure equals actual expenditure ● GDP (Y) = National Income = National Output = Actual Expenditure ● Aggregated Expenditure (AE): Desired/planned expenditure ○ AE = Cp + Ip + Gp + Xp - Mp ■ “p” subscript means planned ● The equilibrium when prices are fixed is when AE = Y ○ Cp+Ip+Gp+Xp-Mp = Ca+Ia+Ga+Xa-Ma ○ Individuals does not have to equal 2. The Simple Model ● Consider a world with no Government, no Trade (other countries), and Fixed prices ○ Gp = Ga = 0 since there is no gov’t ○ Xp = Xa = 0 and Mp = Ma = 0 since there is no trade ● The equilibrium is thus: AE = Y ○ Cp+ Ip = Ca + Ia 3. The Consumption Function ● Household spend all of their income (Y) or either consumption (C) or savings (S) ○ Y = C+S ● Marginal propensity to consume (mpc): The amount of every additional dollar of income spent on consumption ○ mpc: C/ Y ● Marginal propensity to save (mps): The amount of every additional dollar of income put into savings ○ mps: S/ Y ● mpc + mps = 1 ● Consumption is a function of income ○ C = (Autonomous C) + (Induced C) ○ Autonomous C: amount of money spent on consumption regardless of income (interception of c function) ■ fixed expenses you can’t get around ● minimum amount of food/clothing/housing ■ would borrow money so you can afford if income = 0 ○ Induced C: amount of money spent on consumption dependent of the level of income (mpc = slope of C function) ■ Induced C = (mpc * Y) ● ○ The intercept is the level of Autonomous consumption; it is independent of Y ○ The slope is the MPC = C/ Y . All consumption above the autonomous level was induced by Y Example Y C mpc S mps 0 10 - -10 - 100 100 0.9 0 0.1 200 190 0.9 10 0.1 300 280 0.9 20 0.1 ● Autonomous C: 10, intercept of this function equals to 10 ● change in consumption/change in income = 0.9 ○ constant across ○ slope ● Changes in autonomous consumption will shift the consumption function, does not change the slope ● The change is autonomous if it is not due to a change in income ● Sources of autonomous changes in consumption ○ Change in wealth ■ wealth is a notion of spending p
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