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The Goods Market Equilibria - Using Graph
The Goods Market Equilibria - Using Graph
Debajit Jha
Feb 26 and March 2, 2021
Equilibrium output
is determined by
the condition that
production is equal
to demand.
An increase in autonomous
spending has a more than one-
for-one effect on equilibrium
output.
Goods market equilibrium
• AB: first-round increase in production
– The increase in output that is larger than the initial shift in demand, by a factor
equal to the multiplier.
• When people start worrying about the future, they decide to save more even if their current
income has not changed.
Google Search Volume for “Great Depression,” January 2008 to September 2009
Consumer Confidence Indices (15-Mar to 21-Jan)
Survey Details:
• Reserve Bank released the results of
the January 2021 round of its
Consumer Confidence Survey on
February 5th, 2021.
• Survey from January 02 to January
11, 2021
• 13 major cities, viz., Ahmedabad;
Bengaluru; Bhopal; Chennai; Delhi;
Guwahati; Hyderabad; Jaipur;
Kolkata; Lucknow; Mumbai; Patna;
and Thiruvananthapuram.
• N = 5,351 households.
Source: CCS: RBI, January 2021 release.
Highlights:
I. Consumers perceived that the current economic situation was significantly worse when
compared to a year ago, but it improved from November 2020 round of the survey.
II. The current situation index (CSI) continued to improve from its all-time low registered in
September 2020.
III. Going forward, consumers expect improvement in general economic situation and
employment conditions during the next one year.
IV. After reaching the historical low in May 2020 round around the peak of Covid-19 related
lockdown and restrictions, the future expectations index (FEI) increased for four
successive quarters and stood at 117.1 in January 2021.
Perceptions and Expectations on Economic Situation, spending,
income, price level and employment (relative to 2020)
• This is how John Maynard Keynes first articulated this model in 1936, in The General
Theory of Employment, Interest and Money.
• Let’s start by looking at saving. Saving is the sum of private saving and public saving.
S = YD - C
• Using the definition of disposable income, we can rewrite private saving as income
minus taxes minus consumption:
S=Y-T-C
• By definition, public saving (T – G) is equal to taxes (net of transfers) minus
government spending.
• If taxes are less than government spending, the government is running a budget
deficit, so public saving is negative.
• In equilibrium:
Y=C+I+G
• Subtract T from both sides and move C to the left side:
Y − T − C = I + G −T
• The left side of the equation is simply S, so
S = I + G −T
• Or equivalently
I = S + (T − G)
• On the left is investment. On the right is saving, the sum of private saving and public saving.
• To summarize: There are two equivalent ways of stating the condition for
equilibrium in the goods market:
Production = Demand
Investment = Saving
Are these two ways equivalent?
• Because consumption behavior implies that:
S=Y−T−C
= Y − T − c0 − c1(Y − T )
Rearranging terms, so
• (1−c1) is called the propensity to save, which is between zero and one.
•So should you forget the old wisdom? Should the government tell people to be
less thrifty? No.
•The results of this simple model are of much relevance in the short run.
•But when we look at the medium run and the long run— other mechanisms come
into play over time, and an increase in the saving rate is likely to lead over time to
higher saving and higher income.
•A warning remains, however:
Policies that encourage saving might be good in the medium run and in the long
run, but they can lead to a reduction in demand and in output, and perhaps even a
recession, in the short run.
Is the Government Omnipotent? A Warning