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The Aggregate Expenditures Model in a More Realistic Economy

2 March, 2015 - 12:11

Four conclusions emerge from our application of the aggregate expenditures model to the simplified economy presented so far. These conclusions can be applied to a more realistic view of the economy.

  1. The aggregate expenditures function relates aggregate expenditures to real GDP. The intercept of the aggregate expenditures curve shows the level of autonomous aggregate expenditures. The slope of the aggregate expenditures curve shows how much increases in real GDP induce additional aggregate expenditures.
  2. Equilibrium real GDP occurs where aggregate expenditures equal real GDP.
  3. A change in autonomous aggregate expenditures changes equilibrium real GDP by a multiple of the change in autonomous aggregate expenditures.
  4. The size of the multiplier depends on the slope of the aggregate expenditures curve. The steeper the aggregate expenditures curve, the larger the multiplier; the flatter the aggregate expenditures curve, the smaller the multiplier.

These four points still hold as we add the two other components of aggregate expenditures— government purchases and net exports—and recognize that government not only spends but also collects taxes. We look first at the effect of adding taxes to the aggregate expenditures model and then at the effect of adding government purchases and net exports.