Answer to Question #181825 in Macroeconomics for Tarun Garg

Question

Describe in detail the equilibrium process of the open economy Keynesian 

model. Draw all graphs and indicate the process both graphically and 

mathematically.

Answer 1

Answer :-

$\bigstar$

$\bull$ The expenditure-output model, or Keynesian cross diagram,

$\bull$ shows how the level of aggregate expenditure varies with the level of economic output.

$\bull$ The equilibrium in the diagram occurs where the aggregate expenditure line crosses the 45-degree line,

$\bull$ which represents the set of points where aggregate expenditure in the economy is equal to output, or national income.

$\bull$ Equilibrium in a Keynesian cross diagram can happen at potential GDP—or below or above that level.

All graphs

Mathematicaly

also

$\bull$ The second conceptual line on the Keynesian cross diagram is

$\bull$ the 45-degree line, which starts at the origin and reaches up and to the right. A line that stretches up at a 45-degree angle represents the set of points

(1, 1),

(2,2),

(3,3)

, and so on,

$\bull$ where the measurement on the vertical axis is equal to the measurement on the horizontal axis.

$\bull$ In the diagram

the 45-degree line shows the set of points where the level of aggregate expenditure in the economy, measured on the vertical axis, is equal to the level of output or national income in the economy,

measured by GDP on the horizontal axis.

$\bull$ When the macroeconomy is in equilibrium, it must be true that the aggregate expenditures in the economy are equal to the real GDP—because by definition, GDP is the measure of what is spent on final sales of goods and services in the economy.

$\bull$ Thus, the equilibrium calculated with a Keynesian cross diagram will always end up where aggregate expenditure and output are equal—which will only occur along the 45-degree line.

$\bull$ The equilibrium in the diagram occurs where the aggregate expenditure line crosses the 45-degree line,

$\bull$ which represents the set of points where aggregate expenditure in the economy is equal to output, or national income.