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Economics 2152A/B
Ayoub Yousefi

Ricardian Equivalence Proposition Suppose with give Y and G held constant, the government provides a lump sum tax cut of $1 billion. d 1) Tax burden down by $1 billion  current after tax income up by $1 billion  consumption (C ) is up (by less than $1 billion) depending on MPC 2) People expect lower after tax income in the future expected future income is down  d consumption is down (C ) d If the positive and negative effects of a lump sum tax are equal, than the tax cut won’t affect C and therefore S . The idea is called the Ricardian “Equivalence Theorem” Desired Capital Stock and Investment The purchase of new capital increases the stock of capital.  Gross investment The capital stock depreciates reduces the stock on capital Net investment = Gross Investment – depreciation ∆K t I t dK t Kt– Capital stock at the beginning of the year (t) It– Gross investment during the year(t) Goods Market Equilibrium The goods market is in equilibrium e when aggregate quantity of goods and services demanded = aggregate quantity of goods and services supplied C + I + G = Y Income expenditure identity holds all the time because actual values of goods and service d d C + I + G = Y Unlike Income Expenditure identity the goods market equilibrium doesn’t always have to be satisfied aka Left side doesn’t have to equal right side. d d Example if Y > C + I + G  inventory piles up (bad thing) Example if Y < C + I + G  inventory stock falling (good thing) What are the factors that help to bring goods market into equilibrium? Y – C – G = I d d d S = I The saving-investment diagram Facts:
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