CH8, Q4 – The following questions refer to this table:

AGGREGATE PLANNED
OUTPUT/INCOME CONSUMPTION INVESTMENT__
2,000 2,100 (-100) 300 (-400)
2,500 2,500 (0) 300 (-300)
3,000 2,900 (100) 300 (-200)
3,500 3,300 (200) 300 (-100)
4,000 3,700 (300) 300 (0)
4,500 4,100 (400) 300 (+100)
5,000 4,500 (500) 300 (+200)
5,500 4,900 (600) 300 (+300)
a. At each level of output, calculate saving. See above. At each level of output,
calculate unplanned investment (inventory change). See above. What is likely
to happen to aggregate output if the economy produces at each of the levels
indicated? What is the equilibrium level of output? Equilibrium Output Y* =
4,000. When Y < 4,000, inventories are lower than desired (unplanned
investment is negative). Firms will increase production to increase their
inventories, causing aggregate output/income to rise. When Y > 4,000, the
opposite will happen, output/income will fall. -1
(3000 + 100 + 500) = $3600.
b. Over each range of income (2,000 to 2,500, 2500 to 3,000, and so on), calculate
the marginal propensity to consume. MPC = 3000 – 2500 = 500, 2900 – 2500 =
400 / 500 = 0.8
Calculate the marginal propensity to save. MPS = 3000-2900=100, 3000-
2500=500, 100 / 500 = 0.2 What is the multiplier? 1 / .2 = 5
c. By assuming there is no change in the level of the MPC and the MOS and
planned investment jumps by 200 and is sustained at that higher level,
recomputed the table. What is the new equilibrium level of Y? -1 If I increases
by 200 to 500, Y* increases by 5  200 = 1,000. Thus, the new equilibrium level
of output (income) is 5,000. $3600 (3000+100+500=3600)
Is this consistent with what you compute using the multiplier? Yes

CH8, Q5 – Explain the multiplier intuitively. Why is it that an increase in planned

investment of $100 raises equilibrium output by more than $100? An increase in
planned investment will increase equilibrium income of those working on that
investment project, thereby increasing their consumption, and creating more income
and more spending multiple times over and over. Increase in equilibrium output = $200.
Why is the effect on equilibrium output finite? The multipler is finite because a portion
of income is saved. Total income = consumption + saving, hence as income increases,
saving increases as well as consumption. After a point, the injection of planned
investment will just be offset by the leakage into saving. How do we know that the
multiplier is 1/MPS? 1/ 1-MPC = 1/MPS, because MPC + MPS = 1, thus 1-MPC +MPS.
Jawaban 7
Equation of equilibrium is as follows -
Y=C+I
Substituting value of C and I in above equation.
Y = 10 + 0.75Y + 0.04W + 100
Y - 0.75Y = 10 + 0.04*1,000 + 100
Y = 600
The equilibrium level of GDP (Y) is 600.
C = 10 + 0.75Y + 0.04W
   = 10 + 0.75*600 + 0.04*1,000
   = 500
The equilibrium level of consumption is 500.
S=Y-C
S = 600 - 500
S = 100
The equilibrium level of saving is 100.
Now, wealth has increased by 50 percent to 1,500.
Equation of equilibrium is as follows -
Y=C+I
Substituting value of C and I in above equation.
Y = 10 + 0.75Y + 0.04W + 100
Y - 0.75Y = 10 + 0.04*1,500 + 100
Y = 680
The new equilibrium level of GDP (Y) is 680.
C = 10 + 0.75Y + 0.04W
   = 10 + 0.75*680 + 0.04*1,500
   = 580
The new equilibrium level of consumption is 580.
S=Y-C
S = 680 - 580
S = 100
The new equilibrium level of saving is 100.
The increase in wealth has resulted in increase in GDP. Thus, wealth
accumulation leads to increase in GDP.
Increase in wealth, indeed, increase the GDP but whether the increase in
sustainable or long-lasting or a temporary phenomena depends on the nature
of increase in wealth. If increase in wealth is temporary in nature then
increase in GDP will be temporary as once the increase in wealth ceases to
exist, GDP can decline substantially. On the other hand, if increase in wealth
is permanent in nature then increase in GDP is also long-lasting.
When stock values increase, wealth also increases but this increase in wealth
is temporary in nature as once the stock price starts falling, wealth also tends
to decline.
Very large increase in stock values implies the creation of a stock market
bubble. This creation of stock market bubble creates concern. This is
because, in short-term, wealth level due to very large increase in stock values
will reach at unexpected levels resulting in considerable increase in GDP.
However, as bubble will burst (which eventually happens), stock prices fall
substantially, wiping out significant quantity of wealth in the economy resulting
in significant decrease in GDP. This decrease slips the economy into
recession as well resulting in compounding of economic pain.