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USC ECON 205 - Macroeconomic Trends and the Multiplier Model

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ECON 205 2nd Edition Lecture 8Outline of Last Lecture I. Savings, the savings function, and investmentII. Consumption and the consumption functionIII. Marginal propensityIV. Economic cyclesOutline of Current LectureI. The business cycle revisitedII. Macroeconomic EquilibriumIII. Multiplier ModelIV. Change in investmentV. MonopoliesCurrent LectureI. The business cycle revisitedThe economy does not grow smoothly over time; it grows in gyrations. Economists have tried to smooth out such gyrations to remove uncertainty and risk for consumers and businesses. Business cycle causes can be: exuberance vs. pessimism, fluctuation in national output, employment and unemployment percentages, profits, changes in real income, inflation, and changes in interest rates.- The duration is between two and ten years, and covers the entire economy. II. Macroeconomic EquilibriumMacroeconomic Equilibrium is when different forces at work are in balance—there is no furthertendency for change, all variables are satisfied.- At equilibrium level of output, spending and output are in balance.Deficit financing—spending out of debt—creates assets and values (like universities).Countries with high debt tend to have high per-capita incomes, third-world countries with low debt tended to have low per-capita incomes.III. Multiplier Model The multiplier effect is when the change in investment is equal to change in GDP times the multiplier (M). The change in GDP equals the reciprocal of marginal propensity to save multiplied by change in investment. - This is equivalent to 1/(1 – marginal propensity to consume) multiplied by change in GDPFiscal policy in the multiplier model: government spending increases growth, while government taxation will contract and slow the economy. It can influence in the business cycle.IV. Change in investmentThe change in income is equal to the reciprocal of the marginal propensity to save multiplied by change in investment.-∆ income=1MPS(∆ investment )Aggregate demand in the economy determines unemployment. Keynes determined that aggregate demand is dependent on consumption, investment, government expenditures, and net export (the GDP). Keynes figured out that people have a preference for current consumption rather than future consumption (investment). They receive more satisfaction for current consumption, the foundation of consumer economics. Investment is related to the current interest rate and the marginal efficiency of capital—the expectation of profit. V. MonopolyMonopolies lead to inefficient distributions of resources, as they have no reason to improve efficiency for competition. In the United States, the Federal Trade Commission regulates monopolies with anti-trust


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