- Sign up for conflict final exam in class by Wednesday, don’t email Professor Kelly- Read chapters 11, 12, 13, and appendices to 11 and 13- This week: Keynesian view- Next week: the Fed- Last week: AS/AD------------------------------------------------------------------------------------------------------------------------------------- LF continuedo Open economy: We still want to show that total spending = total income This occurs iff leakages = injections Sp + (T – TR) + M = G + I + X Sp + (T – TR) – G + M – X = I Sp + SG + + M – X = I M – X = KI = capital inflow Sp + SG + KI = I Sources of savings = uses of savings Sources- Private HH Sp- Government saving SG- Foreign saving KI (X – M) = net exports, (M – X) = capital inflow E.g. China and the US both export and import goods to/from each other- X – M from the US perspective < 0 trade deficit- This means that China will end up with US $, and they need to find a way to spend it in the US- However, the US doesn’t manufacture many goods that China would want, so instead China buys financial assets- So, M – X purchasing financial assets in another countryX – M Trade? Capital? InterpretationX – M = 0 Balanced trade M – X = 0X – M > 0 Trade surplus M – X < 0 Lending to foreignersX – M < 0 Trade deficit M – X > 0 Borrowing from foreignersM – X = KI > 0iiiSP + KISPSPSupply of LFTrade deficit+ KIieieieSp1LFLFLFiiiDemand of LFBudget deficitieieieG – (T – TR) = -SGI – SG III1LF LFLF- At equilibriumo Sp + KI = I – SG o Sp + SG + KI = Io An increase in trade deficit shifts supply to the right which lowers ie o An increase in government deficit shifts demand to the right which raises ie- LF frameworko Market equilibriumo Talk about effects of a government deficito Talk about effects of a trade deficit- BUT this model says nothing about o *SR business cycleo Or analysis of inflation/deflation- Models built on work of John Maynard Keynes – 1936 The General Theoryo SR (recession or boom)o Focus on spendingo Possibility that spending can be inadequateI – SG SP + KIiLFeieLFo Aggregate expenditure = AE = C + I + G + (X – M) (same thing as GDP)- Build simple Keynesian modelo Assume prices are fixed rule out inflation/deflation real and nominal GDP = sameo Y = C + Sp + (T – TR)o Y – (T – TR) = C + Spo Y – (T – TR) = disposable income = aka DI = YD = Y – T (assuming TR = 0)o C = f(disposable income (+ correlation), interest rate (-), wealth (+), expectations about the future (+), (price level), (inflation rate))o C = a + b(Y – (T – TR)) a = autonomous consumption b = slope of c function = MPC = marginal propensity to consume = ΔC/ΔDIC functionDI1DI2C2C1aDIC
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