No one model can really show the long run and short run. Therefore we will use dif’n models for
For each new model, you should keep track of
which variables are endogenous,
which are exogenous
the questions it can help us understand,
those it cannot
Market Clearing: assumption that prices are flexible, adjusting to equate supply and demand
Short run, prices are sticky- adjust sluggishly in response to changes in supply or demand. Ex.
Labor contracts fix nominal wage for yr or longer.
If prices are sticky, demand may reduce, only changing the supply by a greater amount than eq
would be, creating an excess supply (unemployment)
If prices flexible (long run), markets clear and economy behaves very differently
GDP two definitions: (Expenditure=Income b/c every $ spent by a buyer becomes income to the
Total expenditure on domestically-produced
final goods and services.
Total income earned by domestically-located
factors of production. (land labor capital entrepreneurship)
Value added is the value of the output less the value of the intermediate goods used to produce
the output. GDP here would be $5. Or could get it by adding the value added of each step.
Value added- factor of production
consumption, C ,investment, I, government spending, G, net exports, NX An important identity: Y: value of total output, right side is aggregate expenditure
Y = C + I + G + NX
C- value of all goods and services bought by households including durable goods (cars,
homes), nondurable goods (foods, clothes), and services [work done for consumers] (dry
cleaning, air travel)
I- Spending on goods bought for future use ( spending on NEW capital) (i.e., capital goods)
Business fixed investment
Spending on plant and equipment
Residential fixed investment
Spending by consumers and landlords on housing units
The change in the value of all firms’ inventories
A stock is a quantity measured at a point in time, a low is a quantity measured per unit of time.
G includes all gov’t spending on goods and services