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Questions and Answers
What is private savings defined as in a closed economy?
What is private savings defined as in a closed economy?
- Disposable income less consumption (correct)
- Tax revenue minus government spending
- Disposable income plus consumption
- Investment minus taxes
In a closed economy, which equation expresses the relationship between savings and investment?
In a closed economy, which equation expresses the relationship between savings and investment?
- S = I + (T + G)
- I = S + (G - T)
- I = S + (T - G) (correct)
- S = C + I + G
Under which condition does the government have a fiscal surplus?
Under which condition does the government have a fiscal surplus?
- When T = G
- When T < G
- When T = 0
- When T > G (correct)
What happens when public savings are negative?
What happens when public savings are negative?
In the formula S = I + (G - T), what does G - T represent?
In the formula S = I + (G - T), what does G - T represent?
How can private savings be expressed using national income accounting?
How can private savings be expressed using national income accounting?
Which of the following scenarios indicates an imbalance in a closed economy?
Which of the following scenarios indicates an imbalance in a closed economy?
What does the equation I = S + (M - X) imply in an open economy?
What does the equation I = S + (M - X) imply in an open economy?
How does an exogenous increase in planned consumption $C̄$ affect planned private savings?
How does an exogenous increase in planned consumption $C̄$ affect planned private savings?
What is the significance of the term $1 - c$ in the planned savings equation $S = (1 - c)(Y - T ) - C̄$?
What is the significance of the term $1 - c$ in the planned savings equation $S = (1 - c)(Y - T ) - C̄$?
Why does an increase in private savings potentially lead to a reduction in overall economic output in the Keynesian model?
Why does an increase in private savings potentially lead to a reduction in overall economic output in the Keynesian model?
What does the equilibrium output equation $Y = \frac{C̄ - cT̄ + Ī + Ḡ}{1 - c}$ illustrate?
What does the equilibrium output equation $Y = \frac{C̄ - cT̄ + Ī + Ḡ}{1 - c}$ illustrate?
What phenomenon explains why increased individual savings might be detrimental to the economy as a whole?
What phenomenon explains why increased individual savings might be detrimental to the economy as a whole?
In the context of the Keynesian model, what role can public dissaving (deficit spending) play during increased private savings?
In the context of the Keynesian model, what role can public dissaving (deficit spending) play during increased private savings?
What is meant by 'output is demand-determined' in the Keynesian framework?
What is meant by 'output is demand-determined' in the Keynesian framework?
Which of the following statements about the planned consumption function $C = C̄ + c(Y − T)$ is true?
Which of the following statements about the planned consumption function $C = C̄ + c(Y − T)$ is true?
If the marginal propensity to consume (c) is 0.5, C̄ is 200, and I¯ is 100, what is the equilibrium output (Y)?
If the marginal propensity to consume (c) is 0.5, C̄ is 200, and I¯ is 100, what is the equilibrium output (Y)?
What happens to equilibrium output (Y) if C̄ decreases to 150 while c remains at 0.5?
What happens to equilibrium output (Y) if C̄ decreases to 150 while c remains at 0.5?
In the context of the paradox of thrift, what does increased planned savings lead to in the short run?
In the context of the paradox of thrift, what does increased planned savings lead to in the short run?
What is the effect of an increase in government spending (Ḡ) on short-run output when c is 0.5?
What is the effect of an increase in government spending (Ḡ) on short-run output when c is 0.5?
If planned investment (Ī) is held constant, what must happen when households increase their savings?
If planned investment (Ī) is held constant, what must happen when households increase their savings?
What is the impact of public dissaving, where T̄ − Ḡ = −50, on the paradox of thrift?
What is the impact of public dissaving, where T̄ − Ḡ = −50, on the paradox of thrift?
Which of the following equations shows the relationship for determining equilibrium output?
Which of the following equations shows the relationship for determining equilibrium output?
When comparing the effects of increasing government spending (Ḡ) versus decreasing taxes (T̄), which gives a larger effect on short-run output?
When comparing the effects of increasing government spending (Ḡ) versus decreasing taxes (T̄), which gives a larger effect on short-run output?
An increase in autonomous consumption $C̄$ leads to a decrease in planned private savings.
An increase in autonomous consumption $C̄$ leads to a decrease in planned private savings.
In the Keynesian model, increased savings always leads to higher economic output.
In the Keynesian model, increased savings always leads to higher economic output.
The equation for planned private savings is $S = (Y - T) - C$.
The equation for planned private savings is $S = (Y - T) - C$.
Equilibrium output can be affected by changes in planned investment $I$ and planned savings $S$.
Equilibrium output can be affected by changes in planned investment $I$ and planned savings $S$.
According to the paradox of thrift, individual households saving more may negatively impact the economy.
According to the paradox of thrift, individual households saving more may negatively impact the economy.
The marginal propensity to consume $c$ represents the portion of income that is saved.
The marginal propensity to consume $c$ represents the portion of income that is saved.
Public dissaving through deficit spending can help offset the negative effects of increased private savings.
Public dissaving through deficit spending can help offset the negative effects of increased private savings.
The planned savings function shifts down when there is a decrease in autonomous consumption $C̄$.
The planned savings function shifts down when there is a decrease in autonomous consumption $C̄$.
In a closed economy, public savings is defined as $T - G$.
In a closed economy, public savings is defined as $T - G$.
When the government has a fiscal surplus, it means that $G > T$.
When the government has a fiscal surplus, it means that $G > T$.
In an open economy, investment can be expressed as $I = S + (T - G) + (M - X)$.
In an open economy, investment can be expressed as $I = S + (T - G) + (M - X)$.
The equation $S = I + (G - T)$ can be manipulated to show that $I = S - (G - T)$.
The equation $S = I + (G - T)$ can be manipulated to show that $I = S - (G - T)$.
If the marginal propensity to consume (c) is 0.5, and C̄ is 150, the equilibrium output Y becomes 500.
If the marginal propensity to consume (c) is 0.5, and C̄ is 150, the equilibrium output Y becomes 500.
A paradox of thrift suggests that increased savings can lead to a decrease in overall economic output.
A paradox of thrift suggests that increased savings can lead to a decrease in overall economic output.
An increase in planned savings always leads to an increase in equilibrium output Y.
An increase in planned savings always leads to an increase in equilibrium output Y.
In the equation for private savings, $S = (Y - T) - C$, $C$ stands for total consumption including investments.
In the equation for private savings, $S = (Y - T) - C$, $C$ stands for total consumption including investments.
If public savings are negative, the government must be operating with a fiscal surplus.
If public savings are negative, the government must be operating with a fiscal surplus.
A decrease in consumption ($C̄$) can result in a recession if households increase their planned savings.
A decrease in consumption ($C̄$) can result in a recession if households increase their planned savings.
In a closed economy, if private savings increase and investment remains constant, economic output must increase.
In a closed economy, if private savings increase and investment remains constant, economic output must increase.
The formula for equilibrium output shows that public savings must always be greater than private savings.
The formula for equilibrium output shows that public savings must always be greater than private savings.
Public dissaving occurs when T̄ is less than Ḡ, resulting in a budget deficit.
Public dissaving occurs when T̄ is less than Ḡ, resulting in a budget deficit.
Fiscal stimulus through government spending can counteract the reduction in consumer spending caused by an increase in planned savings.
Fiscal stimulus through government spending can counteract the reduction in consumer spending caused by an increase in planned savings.
A decrease in taxes ($T̄$) has a larger impact on short-run output compared to an increase in government spending ($Ḡ$).
A decrease in taxes ($T̄$) has a larger impact on short-run output compared to an increase in government spending ($Ḡ$).
If the planned investment ($Ī$) remains constant, then an increase in private savings must lead to a decrease in planned consumption.
If the planned investment ($Ī$) remains constant, then an increase in private savings must lead to a decrease in planned consumption.
How does an exogenous decrease in autonomous consumption $C̄$ affect the planned private savings function?
How does an exogenous decrease in autonomous consumption $C̄$ affect the planned private savings function?
What is the relationship between planned savings and planned investment in achieving equilibrium output?
What is the relationship between planned savings and planned investment in achieving equilibrium output?
In the context of the paradox of thrift, what is the consequence of households saving more?
In the context of the paradox of thrift, what is the consequence of households saving more?
How is equilibrium output $Y$ determined in a simple Keynesian economy when autonomous consumption $C̄$ changes?
How is equilibrium output $Y$ determined in a simple Keynesian economy when autonomous consumption $C̄$ changes?
Why can public dissaving be beneficial during a period of increased private savings?
Why can public dissaving be beneficial during a period of increased private savings?
What does the term 'demand-determined' output imply in the Keynesian framework?
What does the term 'demand-determined' output imply in the Keynesian framework?
In the equation for planned private savings $S = (Y - T) - C$, what components does $C$ represent?
In the equation for planned private savings $S = (Y - T) - C$, what components does $C$ represent?
What happens to planned saving if autonomous consumption $C̄$ increases?
What happens to planned saving if autonomous consumption $C̄$ increases?
How does the assumption of a closed economy impact the relationship between savings and investment?
How does the assumption of a closed economy impact the relationship between savings and investment?
What is the paradox of thrift, and how can it affect overall economic output?
What is the paradox of thrift, and how can it affect overall economic output?
In what scenario would a government be considered to have a fiscal deficit?
In what scenario would a government be considered to have a fiscal deficit?
Why is public saving represented by the equation $T - G$, and what does it signify?
Why is public saving represented by the equation $T - G$, and what does it signify?
How does an increase in planned savings influence overall consumption in the Keynesian model?
How does an increase in planned savings influence overall consumption in the Keynesian model?
What does the equation $I = S + (T - G)$ tell us about the components of investment in a closed economy?
What does the equation $I = S + (T - G)$ tell us about the components of investment in a closed economy?
Describe the implications of a balanced government budget ($G = T$) on national investment.
Describe the implications of a balanced government budget ($G = T$) on national investment.
How do changes in government spending ($G$) affect equilibrium output in a closed economy?
How do changes in government spending ($G$) affect equilibrium output in a closed economy?
Explain how a decrease in planned consumption ($C̄$) impacts equilibrium output ($Y$) in the Keynesian model.
Explain how a decrease in planned consumption ($C̄$) impacts equilibrium output ($Y$) in the Keynesian model.
In the context of the Keynesian model, what role does fiscal stimulus play when private savings increase?
In the context of the Keynesian model, what role does fiscal stimulus play when private savings increase?
How do changes in the marginal propensity to consume (c) affect the equilibrium output ($Y$) according to the formulas provided?
How do changes in the marginal propensity to consume (c) affect the equilibrium output ($Y$) according to the formulas provided?
Discuss the implications of public dissaving when the government has negative public savings ($T̄ - Ḡ < 0$).
Discuss the implications of public dissaving when the government has negative public savings ($T̄ - Ḡ < 0$).
What does the equation $Y = rac{C̄ - cT̄ + Ī + Ḡ}{1 - c}$ suggest about the relationship between fiscal policy and output?
What does the equation $Y = rac{C̄ - cT̄ + Ī + Ḡ}{1 - c}$ suggest about the relationship between fiscal policy and output?
Explain why an increase in planned savings does not necessarily lead to an increase in actual private savings.
Explain why an increase in planned savings does not necessarily lead to an increase in actual private savings.
In comparing the effects of an increase in government spending versus a decrease in taxes, which is deemed more effective for stimulating short-run output?
In comparing the effects of an increase in government spending versus a decrease in taxes, which is deemed more effective for stimulating short-run output?
What happens to equilibrium output ($Y$) if both consumption ($C̄$) and government spending ($Ḡ$) increase simultaneously?
What happens to equilibrium output ($Y$) if both consumption ($C̄$) and government spending ($Ḡ$) increase simultaneously?
In a closed economy, private savings can be expressed as S = I + (G - ______)
In a closed economy, private savings can be expressed as S = I + (G - ______)
The ______ of thrift refers to the situation where increased individual savings lead to a decrease in overall economic output.
The ______ of thrift refers to the situation where increased individual savings lead to a decrease in overall economic output.
In an open economy, investment can be calculated using the equation I = S + (T - G) + (M - ______)
In an open economy, investment can be calculated using the equation I = S + (T - G) + (M - ______)
When ______ savings is positive, it indicates that the government has a fiscal surplus.
When ______ savings is positive, it indicates that the government has a fiscal surplus.
The equation S = (Y - T) - C describes how to calculate planned private ______.
The equation S = (Y - T) - C describes how to calculate planned private ______.
In Keynesian economics, increased savings can negatively impact the economy due to the ______ of thrift.
In Keynesian economics, increased savings can negatively impact the economy due to the ______ of thrift.
If the government has a fiscal ______, it means that tax revenue is less than government spending.
If the government has a fiscal ______, it means that tax revenue is less than government spending.
The relationship I = S + (T - G) can show that in a closed economy, total investment is equal to ______ savings plus public savings.
The relationship I = S + (T - G) can show that in a closed economy, total investment is equal to ______ savings plus public savings.
In the planned savings equation, S = (1 − c)Y − ______, C̄ represents autonomous consumption.
In the planned savings equation, S = (1 − c)Y − ______, C̄ represents autonomous consumption.
Equilibrium output is determined by the equation Y = ______ (C̄ + I) / (1 − c).
Equilibrium output is determined by the equation Y = ______ (C̄ + I) / (1 − c).
When C̄ decreases, the short-run equilibrium output Y can ______ as a direct consequence.
When C̄ decreases, the short-run equilibrium output Y can ______ as a direct consequence.
Public dissaving represented by T̄ − Ḡ = ______ can help offset the paradox of thrift.
Public dissaving represented by T̄ − Ḡ = ______ can help offset the paradox of thrift.
An increase in Ḡ has a ______ impact on short-run output compared to a decrease in T̄.
An increase in Ḡ has a ______ impact on short-run output compared to a decrease in T̄.
If actual private savings does not change despite an increase in planned savings, it indicates that output ______ must adjust.
If actual private savings does not change despite an increase in planned savings, it indicates that output ______ must adjust.
According to the paradox of thrift, if all households try to increase savings, it can lead to a ______.
According to the paradox of thrift, if all households try to increase savings, it can lead to a ______.
In the Keynesian model, the short-run output formula shows the relationship as Y = ______ (C̄ − cT̄ + I + Ḡ).
In the Keynesian model, the short-run output formula shows the relationship as Y = ______ (C̄ − cT̄ + I + Ḡ).
Planned private savings is expressed as S = (1 − c)(Y − T ) − ______
Planned private savings is expressed as S = (1 − c)(Y − T ) − ______
According to the paradox of thrift, increased savings can lead to a decrease in overall economic ______.
According to the paradox of thrift, increased savings can lead to a decrease in overall economic ______.
In the Keynesian model, if output is demand-determined, then increased savings may ultimately result in ______ consumption demand.
In the Keynesian model, if output is demand-determined, then increased savings may ultimately result in ______ consumption demand.
For equilibrium output, the equation is defined as Y = ______ / (1 − c).
For equilibrium output, the equation is defined as Y = ______ / (1 − c).
An exogenous increase in planned consumption C̄ leads to a decrease in planned private ______.
An exogenous increase in planned consumption C̄ leads to a decrease in planned private ______.
In a simple Keynesian economy without government spending, both Ḡ and T̄ are equal to ______.
In a simple Keynesian economy without government spending, both Ḡ and T̄ are equal to ______.
Public dissaving can offset an increase in private savings, particularly when households become ______.
Public dissaving can offset an increase in private savings, particularly when households become ______.
The marginal propensity to save is represented as ______.
The marginal propensity to save is represented as ______.
Study Notes
Savings and Investment
- Private savings is defined as disposable income less consumption: S = (Y − T) − C
- In a closed economy, investment equals private savings plus public savings: I = S + (T − G)
- A positive public savings leads to a fiscal surplus (T > G), and a negative one leads to a fiscal deficit (T < G)
Keynesian Model Revisited
- Planned private savings can be expressed as S = (1 − c)(Y − T) − C̄, where (1 − c) is the marginal propensity to save
- An increase in planned consumption C̄ is equivalent to a decrease in planned private savings
Savings and Investment in Equilibrium
- Equilibrium output is when planned investment and planned savings are equal
- In equilibrium, I = S + (T − G)
- Given constant T and G, equilibrium output can be calculated using the equation I = (1 − c)(Y − T̄) − C̄ + T̄ − Ḡ
- Equilibrium output is given by: Y = (C̄ − cT̄ + I¯ + Ḡ) / (1−c)
Paradox of Thrift
- Increasing private savings by decreasing autonomous consumption C̄ leads to a higher savings function
- However, this also leads to a lower equilibrium output
- The paradox of thrift highlights how increased individual savings can negatively impact the overall economy
- Public dissaving (deficit spending) can potentially offset increased private savings
More on Taxes and Spending
- Fiscal stimulus through increased government spending or decreased taxes helps to offset the paradox of thrift
- Both increasing Ḡ and decreasing T̄ increase output, but increasing Ḡ has a greater impact
- The change in output due to a change in Ḡ is dY/dḠ = (1 + c)/(1 − c)
- The change in output due to a change in T̄ is dY/dT̄ = −c/(1 − c)
Savings and Investment
- Savings is defined as disposable income minus consumption.
- In a closed economy, investment equals private savings plus public savings.
- Public savings is the difference between tax revenue and government spending.
- When public savings are positive, the government has a fiscal surplus.
- When public savings are negative, the government has a fiscal deficit.
Keynesian Model Revisited
- Planned private savings are equal to (1 - c)(Y - T) - C̄, where 1 - c is the marginal propensity to save.
- An exogenous increase in planned consumption is equivalent to an exogenous decrease in planned private savings.
Paradox of Thrift
- An increase in private savings can lead to a decrease in equilibrium output.
- Households becoming more thrifty can be harmful to the economy overall.
- Public dissaving can offset the effects of an increase in private savings.
Simple Keynesian Economy Example
- Assuming no government spending or taxation, equilibrium output is determined by planned investment and planned private savings.
- An increase in planned private savings reduces equilibrium output because it decreases consumption demand.
- Despite the increase in private savings, actual private savings remain unchanged.
Fiscal Stimulus
- Fiscal stimulus can offset a decrease in consumer spending by increasing government spending or decreasing taxes.
- Increasing government spending has a bigger impact on short-run output than decreasing taxes.
Savings and Investment in a Closed Economy
- In a closed economy, private savings (S) are defined as disposable income (Y-T) minus consumption (C): S = (Y - T) - C
- Private savings can also be expressed as S = I + (G - T), where I is investment, G is government spending, and T is taxes.
- Investment in a closed economy equals private savings plus public savings: I = S + (T - G)
- Public Savings: If T > G, the government has a fiscal surplus. If T < G, the government has a fiscal deficit.
The Paradox of Thrift
- Increased savings can negatively impact the economy in the short run because it reduces consumption demand.
- Short-run output is demand-determined, so increased savings can lead to lower output.
- Individual households being thrifty could paradoxically be detrimental to the overall economy.
- Public dissaving (deficit spending) can offset the negative impact of increased private savings.
Keynesian Model and Equilibrium
- Planned private savings are given by S = (1 - c)(Y - T) - C̄, where c is the marginal propensity to consume and C̄ represents autonomous consumption.
- Equilibrium output occurs when planned investment and planned savings are equal.
- Equilibrium output can be calculated as: Y = (C̄ - cT̄ + I¯ + Ḡ) / (1 - c)
Example: A Simple Keynesian Economy
- The example assumes no government spending or taxes (Ḡ = T̄ = 0).
- Planned private savings are S = (1 - c)Y - C̄.
- Equilibrium output is Y = (C̄ + I¯) / (1 - c), where I¯ represents planned investment.
- If c = 0.5, C̄ = 200, and I¯ = 100, equilibrium output is Y = 600, and private savings are S = I¯ = 100
Example: Increase in Planned Savings
- An increase in planned private savings (decreased C̄) leads to lower equilibrium output.
- While planned savings increase, actual private savings remain equal to I¯.
- Households attempting to increase their savings collectively can induce a recession because this reduces demand.
Fiscal Stimulus
- Fiscal stimulus can offset the paradox of thrift by increasing government spending (Ḡ) or decreasing taxes (T̄).
- Increased Ḡ has a larger impact on short-run output compared to a decrease in T̄.
- Fiscal stimulus can recover equilibrium output, even in the face of increased private saving.
Savings and Investment
- In a closed economy, private savings are disposable income minus consumption, expressed as: S = (Y − T ) − C
- This can be rearranged using the national income accounting identity (Y = C + I + G), to express private savings as: S = I + (G − T )
- Public savings are defined as excess tax revenue over government spending, expressed as: (T - G)
Key Point: Investment in a Closed Economy
- Domestic investment in a closed economy is equal to private savings plus public savings: I = S + (T − G)
- Public savings can be positive, resulting in a government fiscal surplus (T > G).
- Public savings can be negative, resulting in a government fiscal deficit (T < G).
Keynesian Model Revisited
- Planned private savings are equivalent to: S = (1 − c)(Y − T ) − C̄
- An increase in planned consumption C̄ is equivalent to an exogenous decrease in planned private savings.
Savings and Investment in Equilibrium
- Equilibrium output is found when planned investment and savings are equal: I = S + (T − G)
- The equilibrium level of output can be expressed as: Y = (C̄ − cT̄ + I¯ + Ḡ)/(1−c)
Paradox of Thrift
- More saving (being thrifty) does not always improve the economy, and in some cases, it can actually reduce output.
- An increase in planned private savings shifts the savings function upwards, resulting in more savings at any level of output.
- This leads to a lower equilibrium level of output.
Explanation of Paradox of Thrift
- In the Keynesian model, short-run output is demand-determined.
- Increased savings lead to less consumption, causing a decrease in output.
- Therefore, individual households being thrifty might be bad for the overall economy.
The Importance of Savings
- In the short-run, increased savings can reduce output.
- In the long-run, savings can lead to supply-side benefits, increasing the economy’s productive capacity.
Example: Simple Keynesian Economy
- In the absence of government spending or taxation (Ḡ = T̄ = 0), the equilibrium output is found by solving: I¯ = (1 − c)Y − C̄
- Example with specific values: c = 0.5, C̄ = 200, and I¯ = 100, yields equilibrium output of 600.
Example: Increase in Planned Savings
- A decrease in C̄ to 150 lowers equilibrium output to 500.
- This demonstrates that more savings don't necessarily lead to more investment, but rather output adjusts to match savings and investment.
Example: Fiscal Stimulus
- Offset the decrease in consumer spending with an increase in government spending.
- Setting Ḡ = 50 with T̄ = 0, the equilibrium output recovers to 600.
- This illustrates how government spending can counteract the paradox of thrift.
Fiscal Stimulus: Increase Ḡ or Decrease T̄?
- An increase in government spending (Ḡ) has a larger effect on short-run output compared to reducing taxes (T̄) for a given increase in the budget deficit.
- This is due to the multiplier effect, which is greater when government expenditure increases.
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Description
This quiz covers the fundamental concepts of savings and investment in economics, focusing on private and public savings, equilibrium output, and the paradox of thrift. It revisits the Keynesian model and explores the implications of fiscal surpluses and deficits. Test your understanding of these crucial economic principles!
