Answer to Question #249233 in Macroeconomics for Biba

Question

5. Define carefully what is meant by equilibrium in the multiplier model. For each of the following, state why the situation is not an equilibrium. Also describe how the economy would react to each of the situations to restore equilibrium.
a. In Table 22-2, GDP is $3300 billion.
b. In Figure 22-7, actual investment is zero and output is at M.
c. Car dealers find that their inventories of new cars are rising unexpectedly.

Answer 1

Solution:

a.). Here, the situation is not an equilibrium because the aggregate demand is greater than the aggregate supply. Decreasing inventory of unsold stock will react to it by increasing production and output. The output is increased until it reaches an equilibrium where aggregate demand is equal to aggregate supply.

 

b.). Here, the situation is not an equilibrium because the aggregate supply is greater than the aggregate demand. The aggregate demand will be represented by consumption as the investment is zero. To restore equilibrium, there should be an unplanned decrease in the inventories of unsold stock. This will reduce output and production until it reaches equilibrium.

 

c.). Here, the situation is not an equilibrium because as the car's inventory increases, the aggregate supply will be greater than the aggregate demand due to an undesired increase in inventories of unsold stock. Therefore, the car dealers should reduce output and production until the equilibrium is restored.