Gretel's AP Macroeconomics Blog

CONSUMPTION AND SAVING Disposable income (DI) is income after taxes or net income. With disposable income, households have two choices, they can...: consume  save  Consumption (C) is household spending. Households consume if DI = 0 through autonomous consumption and dissaving. The ability to consume is forced by: the amount of DI the propensity to save Saving (S) is when the household is NOT spending. Households do NOT save if DI = 0. The ability to save is constrained by: The amount of DI The propensity to consume Here are some formulas and information about average propensity to consume (APC) and average propensity to save (APS) : APC + APS = 1 1 - APC = APS 1 - APS = APC APC > 1 (dissaving) -APS (dissaving) M arginal propensity to consume (MPC) is the percentage of every extra dollar earned that is spent. It is also the fraction of any change in DI that is consumed. Its equations are...: MPC =...

 INTEREST RATES AND INVESTMENT DEMAND Investment is money spent or expenditures on...: new plants (factories) capital equipment (machinery) technology (hardware and software) new homes inventories (goods sold by producers) Businesses make investment decisions using cost/benefit analysis . Businesses figure out these benefits using expected rates of return . They count the costs using interest costs . Businesses determine the amount of investment they should undertake by comparing the expected rate of return to the interest cost . If the expected return is greater than the interest cost, then they should invest . If the expected rate of return is less than the interest cost, then they shouldn't invest . The nominal interest rate (i%) is the observable rate of interest. Real interest rate (r%) subtracts out the inflation rate ( π%)  and is only known ex post facto. The real interest rate determines the cost of an investment decision. ...

THE AS/AD MODEL The AS/AD model shows that the equilibrium of AS and AD determines the current output (real GDP) and the price level. Full employment equilibrium exists where AD intersects SRAS and LRAS at the same point. A recessionary gap exists when equilibrium occurs below full-employment output An inflationary gap exists when equilibrium occurs beyond full employment output. The three ranges of SRAS:  - keynesian or horizontal range - intermediate range - classical or vertical range keynesian or horizontal range happens when there recession or depression, when resources are not being fully used, or when we're below full employment intermediate-range happens when resources are getting closer to full employment levels, which creates upward pressure on wages and prices classical or vertical range happens when real GDP is at a level below the full employment level and any increase in dema...

AGGREGATE SUPPLY Aggregate supply (AS) is the level of real GDP that firms will produce at each price level Long-run is the period of time where input prices are completely flexible and adjust to changes in the price level. In the long-run, the level of real GDP supplied is independent of the price level. Short-run is the period of time where input prices are sticky and don't adjust to changes in the price level. In the short-run, the level of real GDP supplied is directly related to the price level. The two types of aggregate supply are:  - long-run aggregate supply (LRAS)  - short-run aggregate supply (SRAS). Long-run aggregate supply marks the level of full employment in the economy. Because input prices are completely flexible in the long-run, changes in price level don't change firms' real profits and therefore don't change firms' level of output.  LRAS is vertical at the economy's...

AGGREGATE DEMAND Aggregate demand (AD) shows the amount of real GDP that the private, public, and foreign sector collectively want to purchase at each possible price level. It is the demand by consumers, businesses, government, and foreign countries. It changes in price level which causes movement along the curve, not a shift of the curve. The relationship between the price level and the level of real GDP is inverse. The formula for aggregate demand is: AD = C + Ig + G + Xn The 3 reasons why aggregate demand is downward sloping are wealth effect , interest-rate effect , and foreign trade effect. Wealth Effect h igher prices reduce the power of the dollar this decreases the quantity of expenditures l ower price levels increase purchasing power and increase expenditures Interest-Rate Effect a s price level increases, lenders need to charge higher interest rates to get a REAL return on their loans h igher interest rates discourage consumer spending and bu...