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Samuelson's book Summary Chapter 24

Chapter 24 Summary

A. The Basic Multiplier Model 1. The multiplier model provides a simple way to understand the impact of aggregate demand on the level of output. In the simplest approach, household consumption is a function of disposable income while investment is fixed. People's desire to consume and the willingness of businesses to invest are brought into balance by adjustments in output. The equilibrium level of national output must be at the intersection of the saving and investment schedules, SS and II. We can also see this using the expenditure-output approach in which equilibrium output comes at the intersection of the consumption-plus-investment schedule, C + I, with the 45E line. 2. If output is temporarily above its equilibrium level, businesses find output higher than sales, with inventories piling up involuntarily and profits plummeting. Firms therefore cut production and employment back toward the equilibrium level. The only sustainable level of output comes when buyers voluntarily purchase exactly as much as businesses desire to produce. 3. Thus, for the simplified Keynesian multiplier model, investment calls the tune and consumption dances to the music. Investment determines output, while saving responds passively to income changes. Output rises or falls until planned saving has adjusted to the level of planned investment. 4. Investment has a multiplied effect on output. When investment changes, output will at first rise by an equal amount. But as the income receivers in the capital-goods industries get more income, they set in motion a whole chain of additional secondary consumption spending and employment. If people always spend r of each extra dollar of income on consumption, the total of the multiplier chain will be 1 + r + r^2 + ... = 1/(1 - r) = 1/(1 - MPC) = 1/MPS The simplest multiplier is numerically equal to the reciprocal of the MPS or, equivalently, to 1/(1 - MPC). The multiplier works in either direction, amplifying either increases or decreases in investment. This result occurs because it always takes more than a dollar of increased income to increase saving by a dollar. 5. Key points to remember are (a) the basic multiplier model emphasizes the importance of shifts in aggregate demand in affecting output and income and (b) it is primarily applicable for situations with unemployed resources. B. Fiscal Policy in the Multiplier Model 6. The analysis of fiscal policy elaborates the Keynesian multiplier model. It shows that an increase in government purchases-taken by itself, with taxes and investment unchanged-has an expansionary effect on national output much like that of investment. The schedule of C + I + G shifts upward to a higher equilibrium intersection with the 45E line. 7. A decrease in taxes - taken by itself, with investment and government purchases unchanged - raises the equilibrium level of national output. The CC schedule of consumption plotted against GDP is shifted upward and leftward by a tax cut. But since extra dollars of disposable income go partly into saving, the dollar increase in consumption will not be quite so great as the dollars of new disposable income. Therefore, the tax multiplier is smaller than the government expenditure multiplier. 8. Using statistical techniques and macroeconomic theory, economists have developed realistic models to estimate expenditure multipliers. For mainstream approaches, these tend to show multipliers of between 1 and 1½ for periods of up to 4 years.

Samuelson's book Summary Chapter 23

Chapter 23 Summary

A. Business Fluctuations 1. Business cycles or fluctuations are swings in total national output, income, and employment, marked by widespread expansion or contraction in many sectors of the economy. They occur in all advanced market economies. We distinguish the phases of expansion, peak, recession, and trough. 2. Many business cycles occur when shifts in aggregate demand cause sharp changes in output, employment, and prices. Aggregate demand shifts when changes in spending by consumers, businesses, or governments change total spending relative to the economy's productive capacity. A decline in aggregate demand leads to recessions or depressions. An upturn in economic activity can lead to inflation. 3. Business-cycle theories differ in their emphasis on exogenous and internal factors. Importance is often attached to fluctuations in such exogenous factors as technology, elections, wars, exchange-rate movements, or oil-price shocks. Most theories emphasize that these exogenous shocks interact with internal mechanisms, such as the multiplier and investment-demand shifts, to produce cyclical behavior. Just as people suffer from different diseases, so do business-cycle ailments vary in different times and countries. B. Foundations of Aggregate Demand 4. Ancient societies suffered when harvest failures produced famines. The modern market economy can suffer from poverty amidst plenty when insufficient aggregate demand leads to deteriorating business conditions and soaring unemployment. At other times, excessive reliance on the monetary printing press leads to runaway inflation. Understanding the forces that affect aggregate demand, including government fiscal and monetary policies, can help economists and policymakers design steps to smooth out the cycle of boom and bust. 5. Aggregate demand represents the total quantity of output willingly bought at a given price level, other things held constant. Components of spending include (a) consumption, which depends primarily upon disposable income; (b) investment, which depends upon present and expected future output and upon interest rates and taxes; (c) government purchases of goods and services; and (d) net exports, which depend upon foreign and domestic outputs and prices and upon foreign exchange rates. 6. Aggregate demand curves differ from demand curves used in microeconomic analysis. The AD curves relate overall spending on all components of output to the overall price level, with policy and exogenous variables held constant. The aggregate demand curve is downward_sloping primarily because of the money-supply effect, which occurs when a rise in the price level, with the nominal money supply constant, reduces the real money supply. A lower real money supply raises interest rates, tightens credit, and reduces total real spending. This represents a movement along an unchanged AD curve. 7. Factors that change aggregate demand include (a) macroeconomic policies, such as monetary and fiscal policies, and (b) exogenous variables, such as foreign economic activity, technological advances, and shifts in asset markets. When these variables change, they shift the AD curve.

Samuelson's book Summary Chapter 22

Chapter 22 Summary

A. Consumption and Saving 1. Disposable income is an important determinant of consumption and saving. The consumption function is the schedule relating total consumption to total disposable income. Because each dollar of disposable income is either saved or consumed, the saving function is the other side or mirror image of the consumption function. 2. Recall the major features of consumption and saving functions: a. The consumption (or saving) function relates the level of consumption (or saving) to the level of disposable income. b. The marginal propensity to consume (MPC) is the amount of extra consumption generated by an extra dollar of disposable income. c. The marginal propensity to save (MPS) is the extra saving generated by an extra dollar of disposable income. d. Graphically, the MPC and the MPS are the slopes of the consumption and saving schedules, respectively. e. MPS / 1 - MPC. 3. Adding together individual consumption functions gives us the national consumption function. In simplest form, it shows total consumption expenditures as a function of disposable income. Other variables, such as permanent income or the life-cycle effect, wealth, and age also have a significant impact on consumption patterns. 4. The personal saving rate has declined sharply in the last two decades. To explain this decline, economists point to social security and government health programs, changes in capital markets, and the rapid rise in personal wealth due to the stock-market boom of the 1990s. Declining saving hurts the economy because personal saving is a major component of national saving and investment. While people feel richer because of the booming stock market, the nation's true wealth increases only when its productive tangible and intangible assets increase. B. Investment 5. The second major component of spending is gross private domestic investment in housing, plant, software, and equipment. Firms invest to earn profits. The major economic forces that determine investment are therefore the revenues produced by investment (primarily influenced by the state of the business cycle), the cost of investment (determined by interest rates and tax policy), and the state of expectations about the future. Because the determinants of investment depend on highly unpredictable future events, investment is the most volatile component of aggregate spending. 6. An important relationship is the investment demand schedule, which connects the level of investment spending to the interest rate. Because the profitability of investment varies inversely with the interest rate, which affects the cost of capital, we can derive a downward-sloping investment demand curve. As the interest rate declines, more investment projects become profitable, showing why the investment demand schedule slopes downward.

Samuelson's book Summary Chapter 21

Chapter 21 Summary

1. The national income and product accounts contain the major measures of income and product for a country. The gross domestic product (GDP) is the most comprehensive measure of a nation's production of goods and services. It comprises the dollar value of consumption (C), gross private domestic investment (I), government purchases (G), and net exports (X) produced within a nation during a given year. Recall the formula: GDP = C + I + G + X This will sometimes be simplified by combining private domestic investment and net exports into total gross national investment (IT = I + X): GDP = C + IT + G 2. Because of the way we define residual profit, we can match the upper-loop, flow-of-product measurement of GDP with the lower-loop, flow-of-cost measurement, as shown in Figure 21.1. The flow-of-cost approach uses factor earnings and carefully computes value added to eliminate double counting of intermediate products. And after summing up all (before-tax) wage, interest, rent, depreciation, and profit income, it adds to this total all indirect tax costs of business. GDP does not include transfer items such as interest on government bonds or welfare payments. 3. By use of a price index, we can "deflate" nominal GDP (GDP in current dollars) to arrive at a more accurate measure of real GDP (GDP expressed in dollars of some base year's purchasing power). Use of such a price index corrects for the "rubber yardstick" implied by changing levels of prices. 4. Net investment is positive when the nation is producing more capital goods than are currently being used up in the form of depreciation. Since depreciation is hard to estimate accurately, statisticians have more confidence in their measures of gross investment than in those of net investment. 5. National income and disposable income are two additional official measurements. Disposable income (DI) is what people actually have left - after all tax payments, corporate saving of undistributed profits, and transfer adjustments have been made - to spend on consumption or to save. 6. Using the rules of the national accounts, measured saving must exactly equal measured investment. This is easily seen in a hypothetical economy with nothing but households. In a complete economy, private saving and government surplus equal domestic investment plus net foreign investment. The identity between saving and investment is just that: Saving must equal investment no matter whether the economy is in boom or recession, war or peace. It is a consequence of the definitions of national income accounting. 7. Gross domestic product and even net domestic product are imperfect measures of genuine economic welfare. In recent years, statisticians have started correcting for nonmarket measures such as unpaid work at home and environmental externalities. 8. Inflation occurs when the general level of prices is rising (and deflation occurs when it is falling). We measure the overall price level and rate of inflation using price indexes - weighted averages of the prices of thousands of individual products. The most important price index is the consumer price index (CPI), which traditionally measured the cost of a fixed market basket of consumer goods and services relative to the cost of that bundle during a particular base year. Recent studies indicate that the CPI trend has a major upward bias because of index-number problems and omission of new and improved goods, and the government has undertaken steps to correct some of this bias.