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With reference to the Keynesian theory and cross graph, if the real GDP were initially $900, what would tend to happen to consumption expenditure? How would it change and why would it change? Why would it stop changing?

Expenditure (E) Possible equilibrium points E=Y 1000 900 800 C+I+G+NX 700 600 500 400 300 200 100 0 100 200 300 400 500 600 7

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Answer #1

As it has been given that with reference to the Keynesian theory and cross graph, if the real GDP were initially $900, then it is greater than the full employment level, so when actual real GDP will be greater than the full employment level of real GDP $500, then there will be inflationary gap of $400.

Since economy is not in equilibrium, therefore economy moves towards equilibrium. Hence consumption will decrease because consumption is the part of the aggregate expenditure (AE). The consumption will stop changing when

Y=AE

Y=C+I+G+NX

At Y=AE, equilibrium will be restored. Hence consumption will stop at equilibrium level of output (Y) $500.

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