Question

Question	Answer
Whenever there is change in spending, there will be a change in real GDP.  Explain why this is so.(2 Points)
Use the graph below to answer the following questions( 3Points) (a)  What is the equilibrium GDP? (b) Suppose the level of real GDP is $650 billion. Explain why this may occur
What is the effect of net exports, either positive or negative, on equilibrium GDP?(2 Points)
The data in the first two columns below are for a private closed economy.  Use this table to answer the following questions.(3 Points) Real GDP = DI (billions) Aggregate expenditures (billions) Exports (billions) Imports (billions) Net exports (billions) Aggregate expenditures (billions) $100 $120 $10 $15 $_____ $_____ 125 140 10 15 _____ _____ 150 160 10 15 _____ _____ 175 180 10 15 _____ _____ 200 200 10 15 _____ _____ 225 220 10 15 _____ _____ 250 240 10 15 _____ _____ 275 260 10 15 _____ _____ (a)  What is the equilibrium GDP for the private closed economy? (b)  Including the international trade figures for exports and imports, calculate net exports and determine the equilibrium GDP for a private open economy. (c)  What will happen to equilibrium GDP if exports were $5 billion larger at each level of GDP? (d)  What will happen to equilibrium GDP if exports remained at $10 billion, but imports dropped to $5 billion? (e)  What is the size of the multiplier in this economy?

Answer 1

When an individual or a household spends it will result in increase in the aggregate demand and this results in increased   output of goods and services thus contributing to the GDP. And at times with the increase in demand the investment made or the money spent by the producer to augment his production capacity also increases. These spending thus results in increase in the real GDP.

The  GDP is said to be at equilibrium when the GDP is equal to the aggregate expenditure. When the aggregate demand in the economy is equal to the aggregate supply in the economy.

The factors influencing the GDP are consumption (C), Government spending(G), Investments(I), Net exports i.e.( Exports(X)- Imports(I)). Changes in any of these factors will result in change in the GDP, they are positively correlated i.e. with an increase in any of thses factors, the GDP will increase and with the decrease in any of these factors the GDP will decrease.

GDP= C+I+G+(X-M).

In an open economy with the positive increase in net exports the real GDP will increase and the level at which it was previously at equilibrium will change as the real GDP with the positive change in exports will exceed the aggregate expenditure. And when the net exports decreases or becomes negative the aggregate expenditure will exceed the real GDP which was previously at equilibrium and will henceforth be no longer at equilibrium due to reduction in real GDP.

Private closed economy problem -

a) The equlibrium GDP for the private closed economy is 200 billion dollars as at this level the aggregate expenditure is equal to the GDP. When the aggregate expenditure is equal to the GDP, the GDP is said to be at equilibrium.

b) The equlibrium GDP for the private open economy is at 225 billion dollars. Here the aggregate expenditure is  220 billion dollars and when international trade is included the real GDP from 225 billion dollars will reduce to 220 billion dollars due to the  net exports of - 5 billion dollars, the value of net exports is negative since the imports exceeds the exports. Hence at 220 billion dollars the equlibrium level of the GDP is achieved.

c) In this case where the exports increases by 5 billion dollars at the aggregate level of GDP and therefore the GDP at this level will no longer be the equilibrium level as the GDP will exceed the aggregate expenditure by 5 billion dollars since with the increase in exports there is no subsequent increase in expenditure a gap of 5 billion dollars will prevail between the GDP and aggregate expenditure.

d) The GDP will increase by 10 billion dollars if the imports drop of 5 dollars from 15 dollars hence there will be a gap of 10 billion dollars emerging between the real GDP and aggregate expenditure and that level of GDP will no longer be the equlibrium level since the GDP will not be equivalent to the aggregate expenditure.