It should be noted that before Keynes, economic theory did not consider general economic equilibrium as an independent macroeconomic problem. Therefore, the classical model of general economic equilibrium is a generalization of the views of economists of the classical school using modern terminology.
The classical model of general economic equilibrium is based on the basic postulates of the classical concept:
1. The economy is an economy of perfect competition and is self-regulating due to absolute price flexibility, rational behavior of subjects and as a result of the action of automatic stabilizers. In the capital market, a built-in stabilizer is a flexible interest rate; in the labor market, a flexible nominal wage rate.
Self-regulation of the economy means that equilibrium in each of the markets is established automatically, and any deviations from the equilibrium state are caused by random factors and are temporary. The system of built-in stabilizers allows the economy to restore the disturbed balance independently, without government intervention.
2. Money serves as a unit of account and an intermediary in commodity transactions, but is not wealth, that is, it does not have independent value (this phenomenon is called the principle of neutrality of money). As a result, the markets for money and goods are not interconnected, and during analysis the money sector is separated from the real sector, to which the classical school includes the markets for goods, capital (securities) and labor.
The division of the economy into two sectors is called the classical dichotomy. In accordance with this, it is argued that in the real sector real variables and relative prices are determined, and in the monetary sector, nominal variables and absolute prices are determined.
Real variables are variables and other quantities calculated independently of the nominal level of current prices of the goods they measure. According to this principle, indicators such as real wages, real income, as well as real GDP, real GNP, and real national income are determined.
Relative price is the price of a product, determined as a ratio to the price of another, basic product.
A nominal variable is a qualitative variable whose values generally cannot be ordered by magnitude (race, ethnicity, gender).
Absolute prices, in contrast to relative prices, are prices for goods and services expressed directly in the number of monetary units.
3. Employment, due to self-regulation of the labor market, appears to be full, and unemployment can only be natural. At the same time, the labor market plays a leading role in shaping the conditions of general economic equilibrium in the real sector of the economy.
Full employment - the presence of a sufficient number of jobs to satisfy the work demands of the entire working population of the country, the practical absence of long-term unemployment, the opportunity to provide those who wish with jobs that correspond to their professional orientation, education, and work experience.
The natural level of unemployment is an objectively developing, relatively stable long-term level of unemployment, due to natural reasons (staff turnover, migration, demographic factors), not related to the dynamics of economic growth.
The full, or natural, rate of unemployment occurs when labor markets are balanced, that is, when the number of job seekers equals the number of available jobs.
Equilibrium in the labor market means that firms have realized their plans regarding production volumes, and households have realized their plans regarding the level of income, determined in accordance with the concept of internal income.
The short-run production function is a function of one variable - the amount of labor; therefore, the equilibrium level of employment determines the level of real production. And since employment is full (everyone who wanted a job at a given wage rate got it), the volume of production is fixed at the level of natural output, and the aggregate supply curve takes on a vertical form.
The volume of aggregate supply is the sum of factor incomes of households, which are distributed by the latter to consumption and savings.
In order for equilibrium to be established in the goods market, the aggregate supply must be equal to the aggregate demand.
Since aggregate demand in a simple model represents the sum of consumer and investment expenditures, if the condition is met that consumer and investment expenditures are equal, equilibrium will be established in the goods market. That is, according to Say's law, any supply generates a corresponding demand.
If planned investments do not correspond to planned savings, then an imbalance may arise in the goods market. However, in the classical model, any such imbalance is eliminated in the capital market. The parameter that ensures balance in the capital market is a flexible interest rate.
If for some reason the planned volumes of savings and investments do not coincide at a given interest rate, then the economy begins a repeated process of changing the current interest rate to its value, which ensures the balance of savings and investments.
Graphically, the relationship between the interest rate, investment and savings according to the “classics” is as follows:
The graph shows an illustration of the equilibrium position between savings and investments: curve I - investment, curve S - savings; on the ordinate axis are the values of the percentage rate (r); on the x-axis are savings and investments.
It is obvious that investment is a function of the interest rate I = I(r), and this function is decreasing: the higher the interest rate, the lower the level of investment.
Savings are also a function (but already increasing) of the interest rate: S = S(r). An interest level equal to r 0 ensures equality of savings and investments throughout the economy, levels r 1 and r 2 are a deviation from this state.
If we assume that the volume of planned savings turned out to be less than the volume of planned investments, then competition between investors for available credit resources will begin in the capital market, which will cause an increase in the interest rate.
An increase in the interest rate will lead to a revision of the volume of planned savings upward and investment downward, until an interest rate is established that will ensure equilibrium.
When the volume of savings exceeds the volume of investment, free credit resources are formed in the capital market, which will cause a decrease in the interest rate to its equilibrium value.
That is, if an imbalance arises in the goods market, then it is reflected in the capital market, and since the latter has a built-in stabilizer that allows it to restore balance, restoring equilibrium in the capital market leads to restoring equilibrium in the goods market.
Thus, Walras's law is confirmed, according to which, if equilibrium is established in two of the three interconnected markets (the labor market and the capital market), then it is established in the third market - the goods market.
Price flexibility extends not only to goods, but also to factors of production. Therefore, a change in the price level for goods causes a corresponding change in the price level for factors. This changes the nominal wage, but the real one remains unchanged.
It follows from this that the prices of goods, factors and the general price level change in the same proportion.
It should be noted that the classics considered macroeconomic equilibrium only in the short term under conditions of perfect competition. Jean-Baptiste Say first formulated the so-called “law of markets”, the essence of which boiled down to the following statement: the supply of goods creates its own demand, in other words, the volume of production produced automatically provides an income equal to the cost of all goods created.
This means that, firstly, the goal of an individual receiving income is not to receive money as such, but to acquire various material goods, that is, the income received is spent entirely. Money with this approach plays a purely technical function, simplifying the process of exchange of goods. Secondly, only your own funds are spent.
Representatives of the classical movement developed a fairly coherent theory of general economic equilibrium, which automatically ensures equality of income and expenses at full employment, which does not conflict with the operation of Say's law.
The starting point of this theory is the analysis of such categories as interest rates, wages, and the price level in the country. These key variables, which in the classical view are flexible quantities, ensure equilibrium in the capital market, labor market and money market.
Interest balances the supply and demand of investment funds. Flexible wages balance supply and demand in the labor market, so that any prolonged existence of involuntary unemployment is simply impossible. Flexible prices ensure that the market is “cleared” of products, so that long-term overproduction is also impossible. An increase in the money supply in circulation does not change anything in the real flow of goods and services, having only an impact on nominal value values.
Thus, the market mechanism in the theory of the classics is itself capable of correcting imbalances that arise throughout the national economy and government intervention turns out to be unnecessary.
The principle of state non-intervention is the macroeconomic policy of the classics.
So, summarizing all of the above about the classical concept of general economic equilibrium, we can say that the formation of conditions for general economic equilibrium in the classical model occurs on the principle of self-regulation, without government intervention, which is ensured by three built-in stabilizers: flexible prices, flexible nominal wage rate and flexible wage rate percent. At the same time, the monetary and real sectors are independent of each other.
The state of the national economy in which there is an overall proportionality between: resources and their use; production and consumption; material and financial flows - characterizes general (or macroeconomic) economic equilibrium(OER). In other words, this is the optimal implementation of aggregate economic interests in society. It means complete satisfaction of needs without unnecessarily expended resources and unsold products.
Graphically, macroeconomic equilibrium will mean the combination of curves in one figure AD And AS and their intersection at some point. The relationship between aggregate demand and aggregate supply (AD–AS) gives a characteristic of the value of national income at a given price level, and in general - equilibrium at the level of society, i.e. when the volume of products produced is equal to the total demand for it. This model of macroeconomic equilibrium is basic. Curve AD may cross the curve AS in different areas: horizontal, intermediate or vertical. Therefore, there are three options for possible macroeconomic equilibrium (Fig. 12.5).
Rice. 12.5. Macroeconomic equilibrium: AD–AS model.
Three segments of the AS curve
The horizontal segment of the AS curve (segment I) corresponds to a recession economy, high levels of unemployment and underutilization of production capacity
The intermediate segment of the AS curve (segment III) assumes a reproduction situation when an increase in real production volume is accompanied by a slight increase in prices, which is associated with the uneven development of industries and the use of less productive resources, since more efficient resources are already used
The vertical segment of the AS curve (segment II) occurs when the economy is operating at full capacity and it is no longer possible to achieve a further increase in production volume in a short period of time.
Non-price factors influencing aggregate demand
The amount of cash income of the population;
Price level for goods and tariffs for paid services;
The state of the taxation system in the country;
Lending terms;
State of money circulation;
National and historical features;
Geographical and demographic features;
Professional and qualification structure of employment of the population;
Unemployment rate in the country;
Level and state of property differentiation in society
Non-price factors affecting aggregate supply include:
1) resource prices (R resources). The higher the prices for resources, the higher the costs and the lower the aggregate supply. Rising resource prices lead to a shift in the curve AS left up, and their decrease leads to a shift in the curve AS down right. In addition, the value of resource prices is influenced by:
A) amount of resources. The greater the resource reserves a country has, the lower the prices for resources;
b) prices for imported resources. Rising prices for imported resources increases costs, reducing aggregate supply (curve AS moves up left);
V) degree of monopoly in the resource market. The higher the monopolization of resource markets, the higher the prices for resources, and therefore costs, and, consequently, the lower the aggregate supply;
2) resource productivity, i.e. the ratio of total production to costs;
3) business taxes (Tx). A change in taxes, for example on wages, while influencing aggregate demand, does not directly affect aggregate supply, since it does not change the firm’s costs;
4) transfers to companies (Tr);
5) state regulation of the economy.
Classical model of macroequilibrium in economics
The classical (and neoclassical) model of economic equilibrium primarily considers the relationship between savings and investment at the macro level. An increase in income stimulates an increase in savings; converting savings into investment increases output and employment. As a result, incomes increase again, and at the same time savings and investments. The correspondence between aggregate demand (AD) and aggregate supply (AS) is ensured through flexible prices, a free pricing mechanism. According to the classics, price not only regulates the distribution of resources, but also provides a “resolution” of nonequilibrium (critical) situations. According to the classical theory, in each market there is one key variable (price P, interest r, wage W) that ensures market equilibrium. Equilibrium in the goods market (through the demand and supply of investments) is determined by the interest rate. In the money market, the determining variable is the price level. The correspondence between supply and demand in the labor market is regulated by the value of real wages.
They considered government intervention unnecessary. For consumption to grow, savings must not lie idle; they must be transformed into investments. If this does not happen, then the growth of the gross product slows down, which means that incomes decrease and demand shrinks.
Keynesian model
Used in analyzing the impact of macroeconomic conditions on national flows of income and expenditure. Equilibrium is achieved only when planned expenditures (aggregate demand) equal national product (aggregate supply
Savings are a function of income. Prices (including wages) are not flexible, but fixed. The commodity market is becoming key. The balancing of supply and demand occurs due to changes in inventories.
Rice. 25.1. Aggregate demand curve
Aggregate demand (AD) changes under the influence of price movements. The higher the price level, the smaller the consumers' reserves of money and, accordingly, the smaller the quantity of goods and services for which there is effective demand.
Rice. 25.2. Aggregate Supply Curve
In the short term (two to three years), the aggregate supply curve, according to the Keynesian model, will have a positive slope close to the horizontal curve (AS1).
In the long run, with full capacity utilization and labor employment, the aggregate supply curve can be represented as a vertical straight line (AS2). Output is approximately the same at different price levels.
Rice. 25.3. Economic equilibrium model
The intersection of the AD and AS curves at point N reflects the correspondence between the equilibrium price and the equilibrium production volume (Fig. 25.3).
The following options are possible in this model:
1) aggregate supply exceeds aggregate demand. Sales of goods are difficult, inventories are building up, production growth is slowing down, and a decline is possible;
2) aggregate demand exceeds aggregate supply. The picture on the market is different: inventories are decreasing, unsatisfied demand is stimulating production growth.
Economic equilibrium presupposes a state of the economy when all the economic resources of the country are used (with a reserve capacity and a “normal” level of employment). In an equilibrium economy there should be neither an abundance of idle capacity, nor excess production, nor excessive overextension in the use of resources.
1.Classical model of macroeconomic equilibrium.
The first macroeconomic equilibrium approach was outlined by the classics of political economy in the first half of the 19th century and developed by the neoclassics in the second half of the 19th century.
The second approach was put forward by Keynes in 1936.
Marginalist direction (the concept of marginal utility and marginal productivity).
Neoclassical economists: Walras, Marshall, Fisher, Igoo.
The initial postulate of the macroeconomic model of the classical school is that production determines costs. This “products are exchanged for products.”
The idea of Say's law was based on the principle of Barth's transactions.
It is the market or the market mechanism that ensures the automatic implementation of economic equilibrium with full use of resources, which means that the economic system achieves an economic optimum.
Adam Smith viewed money from a perspective as wealth.
In the classical macroeconomic model, equilibrium develops in three markets:
1. on the labor market
2. capital
The real and monetary sectors are neutral in relation to each other.
Neoclassicists came to the conclusion that Say's law will be fulfilled even if there are savings in the form of investments.
The conditions for general economic equilibrium in the real sector of the classical model are represented by a system of 3 equations:
1. Equilibrium value of employment (Labor supply determined by the wage rate)L M W
2. Equilibrium income Y(KL)=Y S Y(KL)=Y (d)
3. Equilibrium on the capital market S (i)=I (i
21.09.12
1. What are the features of the subject of macroeconomics and its difference from the subject of microeconomics?
2. Which sectors interact in macroeconomic relations and what role do they play?
3. What is the essence of Say’s law of markets and what conclusion did the classics draw from it?
4. Which scientists and economic schools made the most significant contribution to the development of macroeconomics?
5. What role does the SNA play and what indicators does it include?
6. Define GDP and GNP and show the differences between them.
7. What are final products and added value and why is the value of GDP calculated by final products and added value the same? Explain.
8. Why don't government transfers increase the value of GDP?
9. In what case will nominal and real GDP be the same?
10. Give the definition of net domestic product (NDP) = (GDP - consumption of fixed capital (depreciation)) and national income (ND) = (NDP - indirect taxes), Personal income (national income - social insurance contributions and explain how they are calculated.
25.09.12
Indirect business taxes are taxes on goods and services.
Personal income = national income - social contributions - corporate income tax + transfers (pensions, benefits, subventions, subsidies) - retained earnings + government transfers. bonds.
Personal disposable income = personal income – income tax.
Nominal GDP.(current prices this year)
Real GDP. Nominal GDP without changes in the price level (inflation). Nominal GDP/deflator (nominal/real) GDP.
Potential.
Actual.
Aggregate demand (consumer, investment, government, net exports)
Total offer –
Marginal propensity to consume = save. = 1.
Disposable income (DI) = consumption (C) + savings (S).
To determine the equilibrium volume, the following functions are used:
1. Consumption function. С=С0(autonomous consumption)+MPС*GDP. Volume of consumption with zero income
2. Saving function. S=- C0+MPS*GDP. Amount of savings with zero income.
3. Investment function. I=I0(autonomous investment)-K(investment sensitivity coefficient) +R(interest rate) +MPI(marginal investment) +GDP.
19.10.12 Reproductive functions of the phases of the economic cycle.
The decline in production performs a “cleansing” function through the price mechanism.
1. The crisis eliminates its cause - overaccumulation of capital.
2. Depression, the second phase of adaptation to the new built proportions.
3. Revival phase. Associated with the expansion of reproduction and reaching a crisis level of production.
4. Lifting stage. Production goes beyond the limits of effective demand and increases contradictions in the reproduction mechanism.
Causes of cyclical fluctuations in a market economy. Economic theories explain the cyclical nature of the economy based on classifications into two groups. Highlight:
1. External reasons. These include: scientific and technical discoveries, political events (elections, revolutions, changes in oil prices, natural disasters). S. Jevons (sun spots, not yield => economic cycle). Samuelson – crisis in terms of military products => overproduction of military goods.
2. Internal reasons. Malthus associates the crisis with insufficient income compared to the goods produced. Karl Marx's threshold of the capitalist system is the conflict between the social nature of production and the private capitalist form of appropriation.
The synthesis of external and internal theories was carried out by Samuelson. External impulses give rise to internal crisis factors and cyclical fluctuations. Keintz considered the reason for this to be the investment impulse and the main driver of the cycle, the multiplier-accelerator effect.
The causes of crises can be the expansion and contraction of monetary credit and circulation, founder Friedman. The authors of the political theories of cycles M. Kaletsky, Tufte, saw the reason for fluctuations in economic activity in the actions of officials in the state.
(investment) I = 40 + 0.47, (savings) S = -20+ 0.6 Y (national income). Answer: 462.
In a market economy, the following approaches to the emergence of unemployment are distinguished:
1. Malthusianism.
2. Marxism.
3. Neoclassical.
4. Keynesianism.
Neoclassical. Arthur Pigou "The Theory of Unemployment" 1943
1) The number of workers is inversely related to the salary level.
2) The role of trade unions made the salary inflexible.
3) In order to achieve full employment, a reduction in salary is necessary.
Demand for labor = functional dependence on the price of the wage rate (PL) DL=F (PL)
Labor supply SL=F (PL)
· If the supply of labor increases, this will lead to a decrease in the salary rate. to PLF.
· In the neoclassical model, a market economy is able to use all labor resources, subject to salary flexibility.
· If the salary rate is higher, the supply of labor (M) turns out to be higher than the demand for labor (K) and the segment K M indicates unemployment.
· In the neoclassical model, unemployment is real, but it does not flow from the laws of the market, but arises as a result of their violation.
· Therefore, in the neoclassical concept there can only be voluntary unemployment.
· The Keynesian concept of employment proves that unemployment is not voluntary, but forced.
Conclusion: the volume of employment no longer depends on workers, but on enterprises, since the demand for labor is determined not by the price of labor, but by the amount of effective demand for goods and services.
According to Cainson, employment is a function of the volume of national production, the share of consumption and savings.
It is necessary to maintain proportionality between:
A) costs of GDP and its volumes
B) savings and investments
Conclusion: 1. price flexibility in the commodity and money markets is not a condition for full employment.
2.Increasing employment levels requires ineffective government intervention.
Classic model
Shifts in the aggregate demand and aggregate supply curves that occur as a result of external influences are called economic disturbances, or shocks. The impact of shocks on the economy is that output and employment deviate from natural levels. The AD--AS model reveals the mechanism of economic fluctuations under the influence of such shocks. It can also be used to assess the effects of macroeconomic policies aimed at absorbing shocks and eliminating economic fluctuations.
The figure shows the consequences of an unfavorable change in supply (Figure 2.1).
Figure 2.1 - Adverse supply shock
The short-run curve AS1 shifts upward to position AS2.
(It should be noted here that a supply shock may also cause the natural level of output to shift and, as a result, shift the long-run aggregate supply curve to the left, but we abstract from this possibility in our analysis.)
If aggregate demand remains constant, a transition occurs from point A to point B: the price level rises from P0 to P1, and the level of production (Y1) falls below the natural Yf. This situation is called stagflation - a drop in production levels combined with inflation (rising prices).
In dealing with adverse supply shocks, government institutions capable of regulating aggregate demand must make a choice between two policy options.
The first option is associated with maintaining demand at a constant level AD1, as shown in Fig. 2.1. In this case, production and employment will be below natural levels. Sooner or later, prices will fall to their previous level and full employment will be restored (point A). This result is achieved at the cost of a painful process of production reduction.
The second option is illustrated in Figure 2.2. To more quickly restore the natural level of production, it is necessary to increase demand from AD1 to AD2. If the growth of AD coincides in magnitude with the magnitude of the aggregate supply shock, a movement occurs from point A to point C. In this case, it is generally accepted that the Central Bank was able to mitigate the consequences of the supply shock. The disadvantages of this solution are that a higher price level will remain in the future (P2).
Figure 2.2 - Adverse supply shock
Thus, there is no way to set AD at a level that will ensure both full employment and price stability.
The most important problem within the AD-AS model is to determine whether the market mechanism has the ability to ensure equilibrium of the economic system at full employment. In the world economic literature, there are two approaches to solving this issue: classical and Keynesian.
The starting point of the analysis is the recognition by the classics of the fact that markets are competitive. In accordance with the classical theory, there is a mechanism that automatically ensures equality of income and expenses. Based on flexible prices, interest and wages, it ensures a joint equilibrium in the goods, labor and money markets. This equilibrium is manifested in Walras's law, according to which aggregate demand is always equal to aggregate supply under conditions of full employment and the use of factors of production.
Classical economists assume that wages and prices can move freely up and down, reflecting the balance between supply and demand, and thus argue that macroeconomic equilibrium is always achieved on the vertical segment of the long-term AS curve at the natural level of national production. A decrease in price entails a decrease in wages and therefore full employment is maintained, a reduction in the value of real GDP does not occur, here all products will be sold at other prices, in other words, a decrease in AD does not lead to a decrease in GDP and employment, but only to a decrease in prices.
Thus, classical theory believes that government economic policy can only affect output and employment. Therefore, government intervention in regulating production and employment is undesirable. Representatives of the classical school called the state the “night watchman” of capital, believing that its intervention should be limited to security and police functions. Their views on the economic role of the state prevailed until the 30s of the 20th century.
Aggregate demand in a closed economy in the absence of a public sector consists of consumer spending (C) and investment (I); aggregate supply, respectively, includes consumption (C) and savings (S). The equality of AD and AS can be written in the form
C + I=C + S (2.1)
As a result of the transformation we obtain I=S (2.2)
Classicists believe that the main factor affecting saving and investment is the real interest rate (r). People generally prefer to save financial assets that earn them interest in the form of interest rather than cash. As the interest rate increases, savings (S) begin to increase and the money supply increases. Investment (I) is the demand for money on the part of firms as subjects of the economic system. As the interest rate increases, the desire of firms to invest decreases, since the fee for borrowed funds increases, and it is more profitable to invest your own in securities and receive income in the form of interest. Thus, saving is an increasing function of interest, while investment is a decreasing function.
The money market, from the classical point of view, functions like any individual market. The demand for money (I) and the supply of money (S) are balanced using the interest rate, the interest rate is flexible because there is competition. If the interest rate in the money market is initially low enough, then disequilibrium arises: the demand for money is greater than the supply of money. In this case, competition arises between investors for free funds; investors are willing to pay a higher percentage. The interest rate rises to the equilibrium level. Otherwise, competition for investors arises, and free funds are provided at a lower interest rate, which again restores balance in the money market.
Just as it balances the supply and demand of investment funds, flexible wages ensure equilibrium in the labor market. This equilibrium suggests that involuntary unemployment does not exist, that is, the economy operates at full employment. Flexible prices ensure that the market is “cleansed” of unnecessary products, so that long-term overproduction is impossible. The market is able to correct emerging imbalances so that the economy operates at full employment. The classics explain macroeconomic instability by the presence of non-competitive forces: the activities of the state and trade unions.
Keynesian model
The founder of the Keynesian model is J.M. Keynes. In his model, he proposed that reductions in aggregate demand are responsible for the low levels of income and high unemployment that characterize economic crises. He criticized the classical theory for asserting that only aggregate supply determines the level of national income.
Keynesians question the elasticity of prices and wages on practical and theoretical grounds. They claim that:
a) the presence of trade unions and monopolies, legislation on the minimum wage rate and a host of other similar facts, essentially eliminates the possibility of a significant reduction in prices and wages;
b) a decrease in prices and wages reduces total income, and therefore the demand for labor.
The inelasticity of prices for goods and services means that when overstocked, entrepreneurs prefer not to reduce prices, but to reduce production, which leads to increased unemployment. Unlike the classics, in the Keynesian model equilibrium is usually achieved under conditions of underemployment, that is, in conditions of significant underutilization of capacity and unemployment. The equilibrium economy does not reach its potential level of production. This implies the thesis about the active role of the state, the main goal of which should be to stimulate aggregate demand. Demand, according to Keynes, generates a corresponding supply. An increase in total spending has a stimulating effect on the economy, leading to an increase in production and national product. General macroeconomic equilibrium is achieved when total income (Y) equals expenses (E):
C + S = C + I, (2.6)
This is the simplest Keynesian identity.
Consumption (C), along with investment (I), thus acts as a component of effective demand. To analyze the influence of consumption and savings (S) of the population on the volume of national production, the price level in the country, and employment, Keynes introduces concepts such as the consumption function and the savings function.
The level of consumption, as is known, primarily depends on income. According to the basic psychological law, as income increases, consumption increases, but not to the extent that income increases. The remainder is either saved or used for investment.
Consider the consumption function as linear:
C=a + b x Y. (2.8)
Let us recall how linear functions of this type are constructed. The consumption function determines the planned or desired level of consumer spending at various levels of income.
Figure 2.3 - Consumption function graph
The component is called autonomous consumption. These are consumption expenditures that do not depend on income (for example, a person’s necessary daily expenses to maintain his life).
If it is known that the consumption function is a straight line, then the only characteristic that remains to be determined is its slope.
The slope of the consumption function will be determined by the coefficient b, which is called the marginal propensity to consume (MPC).
Marginal propensity to consume is the portion of the increase in income that goes toward consumption.
Figure 2.4 - Determination of the marginal propensity to consume
The slope of the consumption function curve is determined through the tangent of the angle b:
tg b= DC: DY=MPC. (2.9)
Savings (S) is the portion of income that is not consumed.
Figure 2.5 - Saving function graph
Let us introduce the concept of marginal propensity to save (MPS). MPS is the portion of income growth that goes to savings:
MPS= DS: DY. (2.10)
Average propensity to consume (APC) is the share of income that goes to consumption:
Average Propensity to Save (APS) -- the share of income that goes toward saving:
macroeconomic equilibrium demand Walras
MPC + MPS = 1. (2.13)
APC + APS = 1. (2.14)
Table 2.1 - Functions of consumption, savings, influence of income on them
Having determined the function of consumption and savings, we discover the influence of the level of income on them. Moreover, in conditions of stable economic growth, MPC tends to decrease, MPS tends to increase. In conditions of inflation, the situation is the opposite, since there is a rush demand for real estate, land, jewelry, furs, cars, etc. There are other non-income factors that influence consumption and savings. In particular, wealth, price levels, expectations, consumer debt, taxation.
The second component of effective demand is investment, which, unlike savings, does not depend on income. The level of investment costs is determined by two main facts:
1) expected rate of net profit (Pr);
2) the real interest rate, that is, the nominal rate minus the inflation rate.
The investment demand curve (Id) for the economy as a whole is constructed by arranging all investment objects in descending order depending on the expected rate of net profit. At the same time, we must not forget that investments should be made until the moment when the interest rate (r) is equal to the expected rate of net profit. The demand curve for investment slopes downward and reflects the inverse relationship between the interest rate (the price of investment) and the total amount of required investment goods.
When determining the increase in income (Y), we take into account the factors due to which the increase occurred:
DY= 1:(1-MPC) x DI or DY = 1:(1-MPC) x YES. (2.15)
1:(1--MPC) -- multiplier -- a numerical coefficient showing the relationship between the increase in income and the increase in investment that caused this increase.
Keynesian multiplier theory argued that large expenditures made by the government, firms, and consumers have a positive effect on the volume of national production. Stimulating aggregate spending is justified only in conditions of underemployment. If the economy fully utilizes available resources, an increase in aggregate spending will only lead to inflation. With full employment, the role of savings increases many times over to improve the economy.
The main tools of Keynesian theory are schedules of consumption, savings and investment, showing what amounts households intend to consume and save, and entrepreneurs intend to invest, depending on various levels of income and production, but at a certain price level. And although Keynes's theory was criticized by various schools and directions, it played a positive role in substantiating the concept of effective demand. The Keynesian equilibrium model is based on the absence of automatic mechanisms at full employment and puts forward the thesis about the active role of the state, the main goal of which should be to stimulate demand.
If investments are “added” to personal consumption expenditures, then the consumption schedule will shift upward vertically by a distance corresponding to autonomous investments.
Figure 2.6 - “Keynesian cross”
Now the line of planned expenses will intersect the 45° line at point E. This point will correspond to the amount of income in the amount of Y0. The greater the autonomous investment, the higher the aggregate expenditure schedule rises and the closer the “cherished” level of full employment is. If the state itself carries out autonomous expenditures G, then the line of total expenditures will rise even higher: point E has approached point F, corresponding to the level of income at full employment of all resources (Y*). By adding net export expenditures (NX)1 to autonomous expenditures, we will be increasingly approaching the level of full employment (point E2). The general idea is clear - each addition of any element of autonomous expenditure will shift the total expenditure line upward.
Taking into account all the elements of autonomous spending in an open economy, aggregate demand can be represented as AD=С+мрсY+I+G+NX; Remembering that mrsY is a consumption function, and that the summation of all types of autonomous expenditure is denoted by the letter A, planned aggregate demand can be represented by the formula known to us, i.e. AD = A + mrsy.
An increase in any of the components of autonomous spending leads to an increase in national income and contributes to the achievement of full employment also due to a certain effect, which is known in economic theory as the multiplier effect, which will be discussed in one of the following paragraphs.
Differences in the Keynesian and classical approaches to determining macroeconomic equilibrium:
1. In the classical model, any long-term unemployment seemed impossible. The flexible response of prices and interest rates restored the disturbed balance. In the model proposed by Keynes, equality of I and S can also be achieved under part-time employment.
2. The classical model assumed the existence of a flexible price mechanism organically inherent in the market. Keynes questioned this postulate: entrepreneurs, faced with a drop in demand for their products, do not reduce prices. They reduce production and fire workers, hence unemployment with all the attendant socio-economic conflicts, and the “invisible hand” of the market mechanism cannot ensure stable full employment.
3. savings are, first of all, a function of income, and not just the level of interest, as stated in the theory of the classics.
Thus, we can draw the following conclusions:
1. The views of the classics and Keynesians can be illustrated by the AD--AS model. It allows us to identify the factors shaping the general price level and the real volume of national production.
2. The negative slope of the AD curve in the model is explained by the action of three main factors: the interest effect (Keynes effect), the real wealth effect (Pigou effect) and the effect of import purchases.
3. Non-price factors influencing the AD curve include income, taxes, interest rates, expectations, government spending, national income of other countries, and the national currency exchange rate.
4. The shape of the aggregate supply curve reflects changes in costs per unit of output in the long run as the volume of the national product changes.
5. The long-term AS curve consists of three segments: Keynesian (horizontal), intermediate (ascending) and classical (vertical).
6. According to the point of view of the classics, the aggregate supply curve is vertical, which determines the level of production, and the aggregate demand curve is unchanged, which determines the price level.
7. Keynesians believe that the horizontal aggregate supply curve lies below the curve corresponding to full employment output and that the aggregate demand curve is unstable.
8. In the intermediate period, there is an increase in production volume, accompanied by a rise in prices, during which the economy approaches the natural level of GDP. There is also a lag effect of prices compared to changed demand, associated with the inelasticity of wages and prices (the “ratchet” effect).
9. The AD--AS model is not the only model of macroeconomic equilibrium, but it is easy to understand and serves as the basis for the formation of models of non-equilibrium, dynamic and open economies. Equilibrium models do not characterize the real state of the national economy. Typically, the economy is not in equilibrium.
In economic theory, there are two main approaches to the issue of the mechanism for regulating a market economy: neoclassical (dominated until the 30s of the twentieth century and received a new impetus for development in the 60-70s) and Keynesian.
Neoclassicists proceed from the fact that:
1) perfect competition prevails in the market for factors of production and the market for goods; a market economy is able to ensure the full use of resources;
2) wages and prices can flexibly change up and down, they are completely elastic. At the same time, those who want to work at a wage rate determined by the market can easily find work, that is, involuntary unemployment is impossible;
3) the market mechanism ensures a balance of aggregate supply and demand at the level of full employment of all factors of production. Accordingly, the aggregate supply curve AS is always a vertical line at potential output. It reflects changes in the price level and the constancy of the volume of products produced. Aggregate demand AD is stable;
4) the economic policy of the state can only affect prices, and not the volume of production and employment (Fig. 11.12).
Rice. 11.12. Equilibrium in the classical model
The state should not interfere in the process of establishing macroeconomic equilibrium. A market economy is an ideal self-regulating mechanism;
5) aggregate supply is considered as the engine of economic growth. Shifts in AS are possible when the value of production factors or technology changes.
The Keynesian approach assumes that:
1) in the short term, prices and wages are rigid. Price rigidity does not allow factor markets to reach a state of equilibrium, so in the short run there is a surplus of factors of production in the economy. Accordingly, due to the presence of unemployment, average costs do not change with changes in output, and the short-term aggregate supply curve AS looks like a horizontal straight line. A reduction in prices and wages cannot, in principle, even alleviate the problem of unemployment, since such a reduction leads to lower cash incomes, which, in turn, causes a reduction in aggregate spending.
In the long run, the volume of actual output will correspond to potential output, the level of which is determined by the vertical long-term aggregate supply curve AS.
Aggregate demand AD is unstable because there is a mismatch between investment plans and savings plans;
2) since the market economy is unstable and often underutilizes all its resources, the market mechanism without government intervention is not able to balance the economy, ensuring full employment of all factors of production;
3) since in the short term the aggregate supply is a given value, the engine of economic growth is effective demand. Effective demand through the marginal propensity to consume and the increase in new investments sets the maximum possible level of economic activity. Effective demand– this is the aggregate demand for goods and services, provided with resources for their acquisition. It can be communicated to producers through the price mechanism;
4) autonomous expenses, thanks to the multiplier mechanism, can increase total income by a large amount;
5) macroeconomic equilibrium can occur on different segments of the aggregate supply curve (Fig. 11.13).
Rice. 11.13. Equilibrium in the Keynesian model
The basis of neoclassical theory is Say's law, according to which supply itself creates demand for itself. At the same time, neoclassicists believed that Say’s law also applies if part of the income is saved, since savings through the interest rate are converted into investments. And the interest rate, which is the price of credit resources, like any other price, strives to balance supply and demand.
Keynes showed that investment does not automatically lead to full employment through the interest rate, since decisions to save and invest are made by different individuals on different grounds. According to Keynes, equality of savings and investment is achieved not through a change in the interest rate, but through the level of total income.
Keynes also showed that an increase in savings in an economy with incomplete use of resources will lead to a decrease in the level of production and employment, since with an increase in household savings, consumption decreases, which does not allow the sale of the entire mass of goods, overproduction is created and the growth rate of national income decreases. This effect is enhanced by the action of the multiplier. The state of the economy described by Keynes was called paradox of frugality.
The focus of the Keynesian model of economics is the relationship between income and expenditure. Keynes proposed a method for determining the equilibrium level of production at the current, unchanged price level (prices are determined exogenously) by comparing total expenditures and production volume, which was called income-expenses model or Keynesian cross(Fig. 11. 14).
Fig. 11.14. Model of macroeconomic equilibrium income - expenses
This simple Keynesian model analyzes macroeconomic phenomena solely from the demand side as a static equilibrium position in which the supply of real national output ( Y) is equal to the amount of real national production that people would like to purchase ( A.E.). That is, in this model the volume of total expenses A.E. determines production volume Y and the associated unemployment rate.
The starting point of this model is a line at an angle of 45 degrees. Any point on a given line can be an equilibrium point. Accordingly, the point of intersection of the total expenditure graph A.E., which are simplified as aggregate demand, consisting of the sum of consumer ( C) and investment costs( I), and a line at an angle of 45 degrees will be the point of macroeconomic equilibrium. At this point the equality Y = C+I holds. In a simple Keynesian model, equilibrium can either be associated with full employment or demonstrate equilibrium under conditions of unemployment.
