Question

In macroeconomics, why are equilibrium total savings equal to investment? Demonstrating the algebra is not enough to answer this question. An intuitive explanation is needed.

Answer 1

The saving investmet inequality has always been a topic of deabte in macro economics. Keynes's general theory states that general equilibrium in economy is given by equality of aggregate demand and aggregate supply. It is given by Y=C+I+S. i.e Y= Income, C= consumption, I = Investment, S= Savings. The economy is said to be in equilibrium when savings equal Investment. If the economy has no lags in consumption and expenditure and economy is working in normal functional way , total investments are equal to total savings. As classical economists expalained that if investmet exceeds savings than rate of interest will rise and savings will increase and vice versa. so rate of interest brought the saving investment equality . Keynes pointed the role of Income in saving investment equality. He said if  investment exceeds savings, increased investments must increase the aggregate income because of the multiplier effect and hence  savings will increase due to  the increased income and will be equal to increased investment.

In terms of national output equilibrium saving and income equality is explained.The national output consists of consumption goods & investment goods and is given by O = C + I ( O= output , C= consumption goods, I= investment goods). Similarly  national income is given by sum of  consumption expenditure and saving (Y = C + S). And by definition output is equal to income  therefore, C + I = C + S or I = S.

When investment increases the income increases due to increased employment. So the consumption will also increases, leading to more deamand and thus more investment and more employment and as people will earn more so there will be more savings. Thus there will be saving income equality

Here it is important to understand paradox of Thrift. If all people try to save more than the aggregate saving will not rise as it will reduce some people's income due to reduced consumption &expenditure and hence effective demand will fall and there will be disequilibrium. To balance this aggregate supply will fall and economy will shrink, the income will fall and interest rates will fall and thus savings will decrease and investment saving equality will be there.