The terrorist attacks of September 11, 2001 destroyed another self-adjustment process.
Keynes said that instead of billions of dollars' worth of capital and killed, we're all dead.
As terrible as this was, how government should intervene to boost total spending and get ever, that physical damage made only a tiny dent in the $11 the economy is back on track.
We focused on the demand of goods and services in this and the next two chapters.
Americans were hesitant to go shopping because of fear.
Maynard Keynes would have answered this question if he had a better view of what might cause business cycles.
The undependability of the gate supply side was revealed in the Great Depression.
We got a bird's-eye view of how equilibrium is established in Chapter 8.
Consumers, businesses, governments, and foreign buyers have some idea of how much output they can buy at different prices.
At equilibrium, the aggregate quantity of goods demanded the same price levels as the aggregate quantity supplied.
Figure 9.1 shows a general view of equilibrium.
The U.S. economy faced a similar situation in 2001.
The unemployment problem depicted in Figure 9.1 would disappear if either the AD or AS or aggregate supply were present.
The government might have to do some heavy shifting if not.
Aggregate demand can be broken down into its various components.
Aggregate demand is represented by a stream of spending that contributes to it.
We want to know how these decisions are made.
Whatever changes consumer behavior are sure to have an impact on demand.
This was a no-brainer for Keynes.
In Figure 9.2, you can see that year after year, consumer spending has risen with income.
The key concept is disposable income.
They can either spend their disposable income on consumption or save it.
In 2001, the disposable income of U.S. households was divided by total disposable income.
Consumers spent $7,342 billion and saved only $127 billion.
U.S. consumers spent about the same amount as they received in 2001.
Consumers spent 98 cents out of every dollar of income.
2 cents out of every disposable dollar was saved.
Our economy in the United States is consumer-oriented.
Sometimes the U.S. households are forced to finance some of their consumption with credit or savings.
The News reports that a lot of U.S. households were doing that before 9/11.
40% of Americans admit to living beyond their means.
Permission was granted for this to be reproduced.
Credit or prior savings are used to finance savings.
The MPC is lower in this case than it is in the other case.
If we assumed that consumers would always spend less than their income, we would have been wrong.
As the last dollar was received, we expected the rate of consumer spending to rise by 98 cents.
The rate of spending increased by 80 cents.
No one would be upset if the error of only 18 cents in forecasts of consumer spending was the result of our failure to distinguish the APC from the MPC.
The accuracy of the MPC is more important because of the trillion-dollar dimensions.
The distinction between the two sums is significant when we start playing with them.
Saving is the leftover income after consumption expenditures.
Table 9.1 shows how much of their income consumers spend and how much they save.
Go to the U.S. Bureau of Economic Activity website.
The measures of observed consumer behavior are called statistical measures.
What drives these measures is what we want to know.
The ability to anticipate and control short-run business cycles is of immense value.
Keynes had a number of ideas about consumption.
This is obvious in extreme cases.
People with no income consume goods and services.
They finance their purchases by dipping into their savings accounts or using credit.
People who anticipate a pay raise, a tax refund, or a birthday check often start spending more money even before the extra income is received.
Workers who anticipate being laid off save more and spend less.
A person's ability and willingness to consume are affected by the amount of wealth they own.
A home equity loan can be used to buy a new car, a flat-screen TV, or a vacation.
Consumer spending is being financed by wealth.
When the stock market goes up stockholders save less and spend more of their income.
A change in 1990s, when a persistent rise in the stock market helped fuel a consumption spree, and consumer spending caused by a negative savings rate.
Consumers saw a change in the value of their owned assets when the stock market reversed direction in 2000.
Changes in housing prices have the same effect.
The surge in housing prices made consumers feel rich.
Home-equity loans are used to increase their consumption.
The source of consumer finance dried up when housing prices declined.
People can spend more than they make with the availability of credit.
Current consumption may be limited by the need to repay past debts.
Total and disposable income are linked by taxes.
The tax cuts enacted in 2001-3 put more income into consumer hands immediately and left them with more income from future paychecks.
Aggregate demand increased at existing price levels.
disposable incomes and consumer spending would decline if income taxes went up.
Expectations, wealth, credit, taxes, and other nonincome influences affect the level of spending.
The consumption function is just a summary of consumer behavior.
When incomes change, how the consumption component of AD will change.
Zero--consumer spending depends less on current income than on basic survival needs, past savings, and credit at a very low rate of income.
Suppose that Justin gets a job and starts earning money.
He had been spending $50 per week.
He will want to improve his lifestyle now that he has an income.
The marginal propensity to consume tells us how much to spend.
If Justin increases his consumption from $50 to $125, he will respond to his new income.
We can predict consumer behavior with accuracy if we know the level of consumption and marginal propensity to consume.
When his income is $100, he will spend $125 per week.
At this point, his spending surpasses his income.
The other $25 is still being used.
Dissaving is common in the United States, especially among younger people who have a negative saving flow, according to the News on page 169.
At some point, he'll stop saving if his income continues to rise.
Maybe he'll start saving so he can pay back the people who have supported him.
Justin has an income of $100 per week.
We can see all the possibilities.
The upward slope of the consumption function tells us that consumption spending increases with income.
The monetary policy committee is still 0.75.
At an income of $200 per week, Justin is no longer dis saving but is now breaking even, that is, disposable income equals consumption, so saving equals zero.
Studies show that there's nothing remarkable about Justin.
We play with trillions of dollars per year instead of dealing in hundreds of dollars a week.
The basic relationship is the same.
The aggregate relationship between consumption spending and disposable income is confirmed in the News at the top of the next page.
People change their behavior.
Wealth, credit, expectations, taxes, and price levels are some of the factors that affect consumption.
The 9/11 terrorist attacks heightened fears for both physical and economic security.
Market disruptions and job layoffs added to the sense of security.
Consumer confidence was derailed by all these pressures.
The News at the bottom of the next page reports that consumer confidence was hurt by Hurricane Katrina.
Shifts of the aggregate demand curve are reflected in shifts of the consumption function.
Consider the October 2001 downward shift of the consumption function again.
A decrease in aggregate demand as well as a decrease in consumer spending at any given income level is caused by a decrease in consumer spending at any given income level.
Households spend less of their income when the consumption function goes down.
Less real output is demanded at any given price level.
In December, there was a negative $134.2 billion.
Personal saving as a percentage of disposable borrowing financed through credit cards or home equity loans was negative in January and negative in December.
The FAQ on "Per sonal saving reflects personal outlays that exceed disposable sonal Saving" can be found on BEA's Web site.
Consumer spending increases when household incomes increase.
This relationship is summarized by the marginal propensity to consume.
In September, consumer confidence took the biggest tum in 15 years, as Americans grappled with soar dence gauge of expected inflation, which showed the biggest jump in energy prices after Hurricane Katrina.
The Conference Board said Tuesday.
Economists said that the September consumer dropped the sixth-largest drop in index history.
The percentage of con dence figures were not good news, they did not necessarily sumers calling business conditions "good" fell to 25.2% from mean a dramatic slowdown in consumer spending, about 29.7% in August.
Two-thirds of the economy was the largest erosion.
The outlook depends on the pace of the economy, with 19.8% expecting the business environment to sour, of job growth and how far gasoline prices decline from recent highs, and 25% expecting fewer jobs ahead, up from highs of more than $3 a gallon.
Accept this for what it is: an emotional reaction to tragic circumstances.
Ken Mayland of Clear View Economics wrote the article.
The relationships are shown in Figure 9.6.
The consumption function gives us that information.
The information helps us position the curve.
Consumers' confidence in the future affects their willingness to spend their current income.
We've observed that consumer expectations can change in a heartbeat.
The value of consumer wealth can change a lot.
Consumers were willing to spend more at every income level if they had more wealth.
The Congressional Budget Office found that the wealth effect added $130-$460 billion to annual consumption and drove the marginal propensity to save into negative territory.
Shifts of aggregate demand can cause instability.
Consumers wanted households to spend less of their income.
Aggregate demand shifts may be the result of consumer behavior.
Changes in consumer confidence, wealth, or credit conditions can affect the rate of consumer spending.
Demand-pull inflation may follow if consumer spending increases abruptly.
A recession may occur if consumer spending slows.
It's a source of policy power.
Our knowledge of consumer-based AD shift factors gives us clues about which macro policy tools to look for.
There are four AD components.
We need to examine the other components of spending to determine where AD is and when it might shift.
Residential construction is counted in investment statistics because houses and apartment buildings continue to provide housing services for decades.
Investment decisions are made with expectations in mind.
It is not possible for a firm to purchase new plant and equipment unless it is certain that people will buy the output in the future.
Producers don't want to accumulate inventories.
The rate of interest is a second factor in investment spending.
Business firms borrow money to purchase plant and equipment.
The higher the rate of interest, the more expensive it is to invest.
Changes in technology and innovation make up a third of investment.
An entire new industry of electronic calculators, watches, and other goods sprang to life when scientists learned how to miniaturize electronic circuitry.
The demand for investment goods shifted to the right as a result of improved miniaturized circuits and imaginative innovation.
Digital music players, laptop computers, cellular phones, video conferencing, fiber-optic networks, and anything associated with the Internet have all been stimulated by technological advances and cost reductions.
The general shape of the investment function is depicted in Figure 1 To find the rate of investment spending, we have to know the rate of interest.
That is a very tenuous assumption.
Experience shows that investors' expectations are often quite volatile.
Business expectations are about confidence in future sales.
There is a possibility that new business software will induce a similar response.
Business tax breaks may have the same effect.
Business expectations could get worse.
The terrorist strikes of September 11, 2001 put a lot of investment plans on hold.
Sales expectations might be affected by a transportation strike or spike in oil prices.
As was the case with consumer behavior, we are looking at investor behavior to understand demand.
Knowledge of investor expectations and interest rates will tell us how much investment will be included in aggregate demand at the current price level.
NFIB said that small-business owners expect Sept. 11 to be a terrorist attack.
That collective hunkering down would hurt fourth-quarter sales and contribute to the recession.
A survey by the National Federation of Independent Busi found that capital-spending plans were at their lowest level in 15 years.
Business owners scaled back their plans because of the lower sales expectations.
Business investment is based on expected future sales.
Investment spending and consumption both go up and down.
The quarter-to-quarter changes in both consumer spending and investor spending are depicted here.
The 2001 recession was caused by abrupt changes in investment and related AD shifts.
Review flashcards and saved quizzes
Getting your flashcards
You're all caught up!
Looks like there aren't any notifications for you to check up on. Come back when you see a red dot on the bell!