Question

$10,0001 $8,000 Aggregate expenditure $6,000 Aggregate Expenditure $4,000 $2,000 $0 $0 $2,000 $4,000 $6,000 $8,000 $10,000 Real GDP (Y) 1. The premise of the Keynesian aggregate expenditure model is that the amount of goods and services produced, and therefore the level of employment, depends directly on the level of total expenditures Refer to the above graph and answer the following questions: a. For the GDP level of $5000, GDP (output from producers) is less than real domestic output desired by buyers (planned expenditure). What will happen in the inventory of firms? Increases or decreases? As a result, what will happen in the production by firms? Increases or decreases? 6. For the GDP level of 59000, GDP is higher than real domestic output desired by buyers (planned expenditure) What will happen in the inventory of firms? Increases or decreases? As a result, what will happen in the production by firms Increases or decreases?

Answer 1

a) when the GDP is 5000 and less than the equilibrium level of 6000, the planned expenditure is greater than the GDP as the AE curve is above the Y =AE line. This imply that the inventory will decrease in the adjustment process and there will be greater or increased production of output in the ecoNoMy. Firms production will increase to cater the expanding demand because of higher aggregate expenditure and to restore the inventory stock.

B) Here the aggregate expenditure is less than the Y=AE line and therefore the inventory stock will keep piling up and increasing because of lower demand characterised by falling expenditure. This the inventory will increase. Because of increase in inventory the firms will decrease the production yo stabilize inventory.

C) in the case of equilibrium. The inventory stay intact that is there is No change in the inventories and the planned inventory equal actual inventory. The firms will produce only to sustain the level of inventory at the equilibrium level.