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ECON 1951: Principles of Macroeconomics

Assignment 1 (10%)

1. Explain fully the role played by unplanned investment in inventories in determining equilibrium in the Keynesian model. Use the examples of AD > GDP and AD < GDP to illustrate your answer. Note that in your textbook AD = C + I + G + NX is the same as AE.

2. Why are there two measures of GDP? How is the income measure different from the expenditure measure? Why must the two measures, using different data, be equal? Why might they not be equal? Why do we need to compute nominal and real GDP using both measures?

3. Real GDP can increase both because an economy has unemployment and because of economic growth. Explain fully the difference between these two ways of increasing GDP. Why does the Keynesian model focus only on increasing GDP by reducing unemployment and not on economic growth?

4. Explain fully how the AS/AD model is related to the Keynesian model and how it is different from the Keynesian model.

5. Your textbook uses AD in both the Keynesian model and in the AS/AD model. In most other textbooks the authors use AE instead of AD in the Keynesian model. Explain why both AD and AE are equal to C + I + G + NX. Since both are equal to C + I + G + NX, in what ways are they different? Use graphs to illustrate.