Chapter 17:

Questions for Review

1. Describe the expenditure method of the estimation of national income and also
explain the difficulties in using this method.
○ Expenditure method measures national income at the disposition stage/spending
point. It measures national income by computing final expenditure on gross
domestic product by households, government and private sector.
Difficulties in using this method:
(1) Expenditure on secondhand goods should not be included because they are the
part of the stock of goods produced in the past.
(2) Expenditure on the purchases of shares, bonds, etc., should not be included
because these are paper titles, which only represent the ownership of property.
No material things are produced through the purchase/sale of shares, bonds,
etc.,
(3) Expenditure on pensions, scholarships, unemployment allowance, etc., should
not be included because these are transfer payments.
(4) Expenditure on intermediate goods or semi-finished goods should be excluded to
avoid double counting.
2. Define consumption of fixed capital.
○ The wear and tear of capital equipment is known as depreciation, or
consumption of fixed capital.
3. How is capital loss different from the consumption of fixed capital?
○ Capital loss refers to the loss of utility of capital equipment due to external
factors such as floods, earthquakes, storms etc. But consumption of fixed capital
refers to loss of value of capital equipment due to general wear and tear during
the production process.
4. Is the expenditure on research and development an example of intermediate
consumption?
○ Yes, R&D expenditures are treated as an intermediate input for businesses and
current consumption for nonprofit institutions and general government.
5. Name two types of expenditure that are included in the expenditure method.
○ Private final consumption expenditure: It includes expenditure on goods and
services by the households and private non-profit institutions such as schools,
clubs etc.
○ Government final consumption expenditure: It includes expenditure on
administration, defence, maintenance of law and order, education etc.
6. Explain the meaning of non-market activities.
○ Non-market activities refer to economic activities that do not take place in a
market setting but rather performed within households or the community. They
are not reflected in official economic statistics like GDP.
7. Explain the following terms:
(a) Business fixed investment: This refers to the expenditure made by businesses on
the purchase of fixed assets such as machinery, equipment, buildings, and
 vehicles. These assets are used for productive purposes to generate income for
the business over an extended period.
(b) Inventory investment: This refers to the value of the change in inventories held
by businesses over a specific period. Inventory investment is calculated as the
difference between the value of the goods produced and the value of the goods
sold during a particular period.
(c) Residential construction investment: This refers to the expenditure made by
households, businesses, or governments on the construction of residential
buildings, such as houses, apartments, and condominiums. Residential
construction investment includes all costs related to the construction of new
residential buildings, including the purchase of land, labor, and materials.
(d) Public investment: This refers to the expenditure made by governments on the
construction of public infrastructure, such as highways, bridges, airports, and
public buildings. Public investment is intended to provide long-term benefits to
society, such as improved transportation and communication systems, enhanced
public services, and increased economic growth.

Chapter 18:
Questions for Review
1. What is effective demand?
○ Effective demand (aka aggregate expenditure) is the total money spent on
consumption and investment. It is the demand for output as a whole.
○ Effective demand is the demand for consumers’ goods and producers’ goods.
Thus there will be general overproduction and unemployment.
2. What is aggregate demand? State its components.
○ Aggregate demand refers to the total demand for all goods and services taken
together. In other words, “it is the total volume of purchases that consumers,
investors and government are willing to undertake.” (Charles Schultze)
Four components of aggregate demand or aggregate expenditure:
○ Household consumption demand
○ Private investment demand
○ Government demand for goods and services:
○ Net export demand

Chapter 19:
Questions for Review
1. What is effective demand?
 ○ Effective demand (aka aggregate expenditure) is the total money spent on
consumption and investment. It is the demand for output as a whole.
○ Effective demand is the demand for consumers’ goods and producers’ goods.
Thus there will be general overproduction and unemployment.
2. What happens to the level of income in an economy when ex-ante (intended) savings
are less than the ex-ante (intended) investment?
○ When planned savings are less than planned investment, national income will be
less than the equilibrium level of income. There will be excess demand in the
economy. As such production will have to be increased to meet this excess
demand.
3. How is equilibrium level of income or employment determined?
○ The equilibrium level of income in an economy is determined at the point where
aggregate demand (AD) is equal to aggregate supply (AS).
4. What is aggregate demand? State its components.
○ Aggregate demand refers to the total demand for all goods and services taken
together. In other words, “it is the total volume of purchases that consumers,
investors and government are willing to undertake.” (Charles Schultze)
Four components of aggregate demand or aggregate expenditure:
○ Household consumption demand
○ Private investment demand
○ Government demand for goods and services:
○ Net export demand
5. What is the difference between ex-ante saving and ex-post saving?
○ According to Swedish economists, ex-ante savings are planned or expected
savings of the economy. Ex-post savings are actual or realized savings.
6. What is meant by ex-post saving?
○ Ex-post savings are actual or realized savings
○ Actual (ex-post) savings are always equal to actual (ex-post) investment
7. “Saving and investment are always equal.” Discuss.
○ Some economists are of view that savings and investment are made by two
different classes of people having different motives. Therefore, it is not necessary
that planned (ex-ante) savings may be equal to planned (ex-ante) investment. But
actual (ex-post) savings are always equal to actual (ex-post) investment. The
equality of saving and investment is derived from the general equality of
aggregate demand and aggregate supply (Y = C + I). In macro sense, what the
households plan to save is equal to what the firms plan to invest.
○ The statement "saving and investment are always equal" means that in an
economy, the total amount of saving must be equal to the total amount of
 investment. While some economists argue that planned savings and investment
may not always be equal, it is generally accepted that actual savings and
investment will balance out in the long run. This equality is derived from the
general equality of aggregate demand and supply, where what households save
is equal to what firms invest.
8. How is the classical concept of aggregate supply different from the Keynesian concept
of aggregate supply?
○ The classical concept of aggregate supply is based on the idea that in the long
run, the economy will always return to its full employment level of output,
regardless of changes in aggregate demand. In contrast, the Keynesian concept of
aggregate supply emphasizes that in the short run, output may not always equal
the full employment level due to factors such as sticky wages or prices.
Additionally, Keynesian economics suggests that changes in aggregate demand
can have a significant impact on output and employment in the short run,
whereas classical economists believed that market forces would eventually lead
to equilibrium without government intervention.
9. Which are the elements important in understanding investment?
○ b
10. What is the investment demand function?
○ The investment demand function represents the demand for investment
spending by firms in an economy. It is based on factors such as the interest rate,
expected return on investment, and business confidence. The investment
demand function is a component of the aggregate demand function, as
investment is one of the four components of aggregate demand.
11. How does the introduction of government sector affect economy?
○ Overall, the introduction of the government sector can have significant effects on
the economy. The government can influence the economy through its policies
and actions, and its role in providing public goods and services and regulating
markets can impact economic efficiency and stability. However, government
actions can also have unintended consequences, and managing the balance
between government intervention and free market forces is an ongoing
challenge for policymakers.
Chapter 20:
Questions for Review:
1. Explain the concept of consumption function.
○ The relationship between consumption and the level of income.
 ○ Consumption function shows spending of consumers on goods and services at
different levels of disposable income. Thus, consumption function expresses the
relation between income (Y) and consumption (C).
2. What is propensity to consume?
○ The relationship between consumption and the level of income is referred to as
propensity to consume or consumption function.
3. What is marginal propensity to consume?
○ The ratio of change in consumption to change in income is known as marginal
propensity to consume. Symbolically, change (𝚫) in the income is denoted as AY
(read as delta Y) and change in consumption as AC. Hence, MPC= 𝚫𝐶/𝚫𝑌.
4. What is propensity to save?
○ The relationship between the change in income and the change in saving is the
propensity to save. We can also express propensity to save in two different ways.
These are the following:
(a) The average propensity to save (APS), and
(b) The marginal propensity to save (MPS).
5. What is average propensity to save?

6. What is marginal propensity to save?

7. Define average propensity to consume