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Questions and Answers
What does it indicate when saving is zero?
What does it indicate when saving is zero?
What is the meaning of dissaving $5 billion?
What is the meaning of dissaving $5 billion?
According to the consumption schedule, what is the slope represented as?
According to the consumption schedule, what is the slope represented as?
What is the marginal propensity to consume when the slope of the saving schedule is 1.33?
What is the marginal propensity to consume when the slope of the saving schedule is 1.33?
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At which level of disposable income does the saving become $5 billion?
At which level of disposable income does the saving become $5 billion?
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How do changes in income primarily affect consumption?
How do changes in income primarily affect consumption?
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How is saving related to disposable income when consumption is positive?
How is saving related to disposable income when consumption is positive?
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Which of the following factors can influence consumption other than income?
Which of the following factors can influence consumption other than income?
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What happens when consumption equals disposable income?
What happens when consumption equals disposable income?
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If disposable income increases to $490 billion, what is likely the consumption behavior?
If disposable income increases to $490 billion, what is likely the consumption behavior?
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What tends to occur with the average propensity to consume as disposable income rises?
What tends to occur with the average propensity to consume as disposable income rises?
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What relationships are examined between economic aggregates in the chapter?
What relationships are examined between economic aggregates in the chapter?
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What happens at the point where consumption equals disposable income?
What happens at the point where consumption equals disposable income?
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What is represented by the saving schedule in a graph?
What is represented by the saving schedule in a graph?
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Which statement best describes the relationship between average and marginal propensities to save?
Which statement best describes the relationship between average and marginal propensities to save?
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How do real interest rates affect investment?
How do real interest rates affect investment?
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In which scenario is the average propensity to consume (APC) at its highest?
In which scenario is the average propensity to consume (APC) at its highest?
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What can yield multiplied changes in GDP according to the chapter's overview?
What can yield multiplied changes in GDP according to the chapter's overview?
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What is indicated by a consumption schedule slope of 0.75?
What is indicated by a consumption schedule slope of 0.75?
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Which of the following best describes 'aggregate' as used in macroeconomics?
Which of the following best describes 'aggregate' as used in macroeconomics?
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At $470 billion of income, what is the calculated average propensity to consume (APC)?
At $470 billion of income, what is the calculated average propensity to consume (APC)?
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What is one of the primary questions addressed regarding investment in the chapter?
What is one of the primary questions addressed regarding investment in the chapter?
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Which of the following statements about the marginal propensity to save (MPS) is accurate?
Which of the following statements about the marginal propensity to save (MPS) is accurate?
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What happens to household behavior when real interest rates fall?
What happens to household behavior when real interest rates fall?
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Which factor is NOT directly examined in the context of consumption?
Which factor is NOT directly examined in the context of consumption?
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How do changes in taxation affect consumption and saving schedules?
How do changes in taxation affect consumption and saving schedules?
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What is a consequence of lower interest rates on consumption?
What is a consequence of lower interest rates on consumption?
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What keeps the consumption and saving schedules relatively stable?
What keeps the consumption and saving schedules relatively stable?
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Which effect does an increase in taxes have on saving behavior?
Which effect does an increase in taxes have on saving behavior?
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What is the effect of higher interest rates on the consumption schedule?
What is the effect of higher interest rates on the consumption schedule?
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How do lower interest rates affect saving incentives?
How do lower interest rates affect saving incentives?
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What can lead to self-cancellation of changes in consumption and saving schedules?
What can lead to self-cancellation of changes in consumption and saving schedules?
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What should a firm do if the interest rate exceeds the expected rate of return?
What should a firm do if the interest rate exceeds the expected rate of return?
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What does the firm do with its investment projects?
What does the firm do with its investment projects?
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How should the firm handle internal financing when investing?
How should the firm handle internal financing when investing?
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At what point should a firm stop investing in new projects?
At what point should a firm stop investing in new projects?
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What is the significance of the interest rate in the investment decision?
What is the significance of the interest rate in the investment decision?
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What does the data provide in the example of the investment projects?
What does the data provide in the example of the investment projects?
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What happens when the expected rate of return equals the real interest rate?
What happens when the expected rate of return equals the real interest rate?
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Why is opportunity cost important when investing internally?
Why is opportunity cost important when investing internally?
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What happens when each household individually attempts to save more during a recession?
What happens when each household individually attempts to save more during a recession?
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What financial action would a business owner take if the expected net revenue from an investment exceeds its cost?
What financial action would a business owner take if the expected net revenue from an investment exceeds its cost?
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How is the expected rate of return calculated?
How is the expected rate of return calculated?
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What does a nominal interest rate of 15 percent indicate in the presence of a 10 percent real rate of return?
What does a nominal interest rate of 15 percent indicate in the presence of a 10 percent real rate of return?
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What effect does a collective reduction in total spending during a recession have on households?
What effect does a collective reduction in total spending during a recession have on households?
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What is true about the conditions necessary for a business to decide to purchase capital goods?
What is true about the conditions necessary for a business to decide to purchase capital goods?
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If a sanding machine costs $1,000 and generates net expected revenue of $1,100, what is the profit after the cost is subtracted?
If a sanding machine costs $1,000 and generates net expected revenue of $1,100, what is the profit after the cost is subtracted?
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Why is it important to consider inflation when calculating the expected rate of return on an investment?
Why is it important to consider inflation when calculating the expected rate of return on an investment?
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Study Notes
Basic Macroeconomic Relationships
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Learning Objectives:
- Describe how changes in income affect consumption and saving.
- List and explain factors other than income that affect consumption.
- Explain how changes in real interest rates affect investment.
- Identify and explain factors other than the real interest rate that affect investment.
- Illustrate how changes in investment (or other spending components) can increase or decrease real GDP by a multiple amount.
Income-Consumption and Income-Saving Relationships
- Relationship: Income and consumption have a strong positive relationship. As income rises, consumption also rises, and vice-versa.
- 45° Line: A reference line on a graph where consumption equals disposable income.
- Saving: The difference between disposable income and consumption (DI - C).
- Consumption Schedule: Shows the planned level of consumption at each level of disposable income.
- Saving Schedule: Depicts the planned saving at each level of disposable income.
- Average Propensity to Consume (APC): Ratio of consumption to disposable income.
- Marginal Propensity to Consume (MPC): Ratio of a change in consumption to a change in disposable income.
- Average Propensity to Save (APS): Ratio of saving to disposable income.
- Marginal Propensity to Save (MPS): Ratio of a change in saving to a change in disposable income. Crucially, MPC + MPS = 1
The Interest-Rate-Investment Relationship
- Investment: Expenditures on plants, equipment, machinery, inventories, etc.
- Expected Rate of Return (r): Businesses invest if the expected rate of return is greater than the interest rate paid to borrow funds.
- Real Interest Rate (i): Adjusted for inflation, this determines the cost of borrowing.
- Investment Demand Curve: Plots the inverse relationship between the real interest rate and the quantity of investment demanded.
Shifts of the Investment Demand Curve
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Non-Interest Factors:
- Acquisition, Maintenance, and Operating Costs: Higher costs lower returns and shift the curve left. (Lower costs shift it right.)
- Business Taxes: Higher taxes reduce profitability, shifting the curve left. Lower taxes shift it right.
- Technological Change: Innovations increase returns, shifting the curve right.
- Stock of Capital Goods: High-inventory levels suggest lower returns and shift the curve left; low inventory shifts it right.
- Planned Inventory Changes: Increased planned inventories lead to increased investment, shifting the curve right.
- Expectations: Optimistic expectations (e.g. of future sales) shift the curve right; pessimistic expectations shift the curve left.
Instability of Investment
- Volatility: Investment spending is the most volatile component of total spending.
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Factors Affecting Instability:
- Expectations about future sales, profits, costs
- Changes in technology
- Irregular occurrences
- Durability of capital goods
- Changes in interest rates
The Multiplier Effect
- Definition: An initial change in spending (e.g., investment) leads to a larger final change in real GDP.
- MPC: The proportion of additional income that households spend. A higher MPC means a larger multiplier.
- Multiplier: Ratio of the change in real GDP to the initial change in spending.
- Rationale: Repetitive spending and income flow through the economy magnifies the initial impact.
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Description
This quiz covers fundamental concepts in macroeconomics, including the relationships between income, consumption, and saving. It also explores how real interest rates influence investment, as well as various factors affecting these economic variables. Understand these key principles to grasp how they impact real GDP.
