Topic notes

Equilibrium: Y = AE
1. AE2 = C + I = Ca + cY + Ia
2.

Yd = Y – Tax (Ta + tY)

1. Lump-sum Tax (Ta): each household will pay fix amount of tax regardless of their Income
2. Proportional Tax (tY): the higher the income is, the higher tax rate you have to pay

=>
Equilibrium output of three sector model
Y = AE
Plot a graph
Without considering Taxation

Considering Taxation
Assumption: The amount of tax payment < Government Spending

Comparision of AE3 with AE2

c > c (1-t) with 0 < t < 1
 The AE3 should be flatter than the AE2
 The final outcome:
slope: c(1-t)
MPC changes:
+ if MPC increases, the AE3 becomes steeper
+ if MPC decreases, the AE3 becomes flatter
t changes:
+ if tax increase, the AE3 becomes flatter
+ if tax decreases, the AE3 becomes steeper\
 The greater the MPC is and the lower the tax rate is (determinants of the slope) =>
the greater the AE is => the greater the output (Y = AE3)

Multiplier
1. Expenditure multiplier

Explaination: How much national income outputs changes when the government expenditure
changes?
Ex:

Explaination: Each additional of VND creates 3 additional units of national imcome

2. Tax multiplier

Explaination: How much national income outputs changes when the taxation changes?
Ex:

Explaination: Each unit of tax cuts creates 2 additional units of national income
Budget

Budget = Tax revenue – Government Expenditure

With
+ Budget > 0: Budget “Surplus” meaning that they can lend the surplus to the money market to
get the interest
+ Budget = 0: Budget Balance
+ Budget < 0: Budget “Deficit” meaning that they have to borrow from the money market to
cover the balance.
Budget vs Business Cycle
1. Expansionary Business Cycle: Y increases => Income increases => Tax revenue increases =>
Budget surplus
2. Recessionary Business Cycle: Y decreases => Income decreases => Tax revenue decreases =>
Budget deficit
Budget vs Fiscal Policy
1. Expansionary Fiscal Policy is used when the business cycle is recessionary
=> Government spending increases; Tax revenue decreases => Budget “deficit”
2. Contractionary Fiscal Policy is used when the business cycle is expansionary
=> Government spending decreases; Tax revenue increases => Budget “surplus’
Keep balanced budget is always good?
T=G
1. Recession of the economy: changes T decreases
=> Budget Deficit => changes in G decrease to keep the budget balance => Make the
economy become more reessionary
2. Expansion of the economy: changes T increases
=> Budget surplus => changes in G increases to keep the budget balance => Make the
economy become more inflationary

AE4 = C + I + G + NX
NX = X – M
= Xo – [ Mo + m*Y]
With:
+ M: Import
+ m: Marginal Propensity to import