Keynes identified three primary markets; these markets provide another way of looking at how households, firms, the government and the rest of the

Transcription

1 Keynes identified three primary markets; these markets provide another way of looking at how households, firms, the government and the rest of the world interact with each other

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3 The market for goods and services can be described as any medium where the independent actions of buyers and sellers are coordinated. In this market consumers demand the goods and services while the businesses supply those goods and services. The price for the product is determined by the interaction of these 2 forces.

4 Goods & Services

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6 The securities market dealing in short-term debt and monetary instruments. Money market instruments are forms of debt that mature in less than one year and are very liquid. E.g. treasury bills. In a more simplistic definition, the money market can be defined as the interaction of the demand and supply of money.

7 In the money market everyone demands money(household, firms, Gov. etc) while the Gov. through the Central Bank supplies money. The demand for money is negatively related to the interest rates while the money supply is unresponsive to interest rate changes. This is so because the money supply is exogenously determined by the relevant authorities (central bank)

8 Money market cont.

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10 The labour market can be described as any medium through which individuals supply there labour time and firms demand that time for productive activity.

11 The price of labour is wages and salaries. The interaction of the supply and demand for labour time determines the equilibrium wage rate. The labour market is in essence the market in which workers compete for jobs and employers compete for workers.

12 Labour Market cont.

13 Before venturing into aggregate demand and supply it is useful to first recap demand and supply within the context of microeconomics.

14 A relation showing the quantities of a good that consumers are willing and able to buy at various prices during a given period of time, ceteris paribus.

15 A relation showing the quantities of a good or service producers are willing and able to sell at various prices during a given time period ceteris paribus.

16 An aggregate is a collection of items that are gathered together to form a total quantity.

17 Aggregate demand is a schedule or curve that shows the amount of real output that buyers collectively desire to purchase at each possible price level. The relationship between the price level and the amount of real GDP demanded is inverse or negative: When the price level rises, the quantity of real GDP demanded decreases, when the price level falls, the quantity of real GDP demanded increases. AD = C+I+G+(X-M)

18 Aggregate Demand cont. Price Level Level AD Real domestic output, GDP

19 In the Keynesian income-expenditure model Y = C + I + G + (X M) =AD Where; Y = income C = consumption I = investment G = Government X=exports M = imports

20 Personal consumption expenditures (C) or consumption - demand by households. This include consumption of durable goods, non durable goods and services. Durable goods- last a long time e.g., cars, home appliances. Non durable goods-last a short time e.g., food, clothing Services- work done for consumers e.g., dry cleaning, air travel

21 Gross private domestic investment (I) - demand by business firms and some individuals, for new factories, machinery, computer software, housing, other structures, and inventories (the purchase of capital goods). Business fixed investment- Spending on plant and equipment that firms will use to produce other goods and services. Inventory- The change in the value of all firms inventories Residential /Household investment-spending by consumers and landlords on housing units Note: Investment is affected by the output and the interest rate (r). Investment has positive relationship with the output (Y) and negative relationship with the interest rate.

22 Gross government investment and consumption expenditures (G) spending by the government. It does not include transfer payments (unemployment insurance etc.) because they do not represent spending on goods and services. Net exports (X-M) Exports less Imports i.e., net demand by the rest of the world for the country's output. 1. exports: the value of g&s sold to other countries 2. imports: the value of g&s purchased from other countries

23 In microeconomics we learnt that the demand curve for a particular good/service sloped downwards as result of the income and substitution effects this explanation is not the same for aggregate. The following effects determine the downward slope of the aggregate demand curve:

24 A change in the price level produces a real balance effect. A higher price level reduces the real value or the purchasing power of the public s accumulated saving balances. In particular, the real value of assets with fixed money value such as savings account and bond diminishes. A household might buy a new car or a sailboat if the purchasing power of its financial asset balances is say $ 5,000,000. But if inflation erodes the purchasing power of their asset balances to 3,000,000, the family may defer its purchase. So a higher price level means less consumption spending.

25 The another reason is the foreign purchase effect. When Guyana price level rises relative to foreign price levels, foreigners buy fewer Guyanese goods and Guyanese buy more foreign goods. Therefore Guyana exports fall and Guyana Imports rise. In short, the rise in the price level reduces the quantity of Guyanese goods demanded as net exports.

26 When we draw an aggregate demand curve, we assume that the supply of money in the economy is fixed. But when the price level rises, consumers need more money for purchases and businesses need more money to meet their payrolls and to buy other resources. A $1000 bill will do when the price of an item is $1000, but a $1000 bill plus a $100 bill is needed when the item cost is $1100. In short a higher price level increases the demand for money. So given a fixed supply of money, an increase in money demand will drive up the interest rate. This high interest rate will intern reduce business investment and consumption of interest sensitive goods.