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Chapter 21: Q 2. (page 556)

Why is inventory investment counted as part of aggregate spending if it isn’t actually sold to the final end user?

Short Answer

Expert verified

Inventory Investment is counted as a part of aggregate spending, as it is the spendings of 'firms' sector out of the economy.

Step by step solution

01

Definition

Aggregate Demand or Aggregate Spending is the total value of goods & services, planned to be demanded by all the sectors of economy, during a period of time.

02

Detail Explanation 

Four sectors of economy contribute to following components of Aggregate Spending

  • Households incur Consumption expenditure
  • Firms incur Investment expenditure on fixed goods & inventory.
  • Government incurs expenditure on government purchases
  • Rest of the world has contribution to aggregate spending, in form of net earnings from net exports (ie exports - imports)

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Most popular questions from this chapter

Go to the St. Louis Federal Reserve FRED database, and find data on Real Private Domestic Investment (GPDIC1), a measure of the real interest rate; the 10-year Treasury Inflation-Indexed Security, TIIS (FII10); and the spread between Baa corporate bonds and the 10-year U.S. treasury (BAA10YM), a measure of financial frictions. For (FII10) and (BAA10YM), convert the frequency setting to “quarterly,” and download the data into a spreadsheet. For each quarter, add the (FII10) and (BAA10YM) series to create ri , the real interest rate for investments for that quarter. Then calculate the change in both investment and ri as the change in each variable from the previous quarter.

a. For the eight most recent quarters of data available, calculate the change in investment from the previous quarter, and then calculate the average change over the eight most recent quarters.

b. Assume there is a one-quarter lag between movements in ri and changes in investment; in other words, if ri changes in the current quarter, it will affect investment in the next quarter. For the eight most recent lagged quarters of data available, calculate the onequarter-lagged average change in ri .

c. Take the ratio of your answer from part (a) divided by your answer from part (b). What does this value represent? Briefly explain.

d. Repeat parts (a) through (c) for the period 2008:Q3 to 2009:Q2. How do financial frictions help explain the behavior of investment during the financial crisis? How do the coefficients on investment compare between the current period and the financial crisis period? Briefly explain.

When the Federal Reserve reduces its policy interest rate, how, if at all, is the IS curve affected? Briefly explain.

If the marginal propensity to consume is 0.75, by how much would government spending have to rise to increase output by \(1,000 billion? By how much would taxes need to decrease to increase output by \)1,000 billion?

If a change in the real interest rate has no effect on planned investment spending or net exports, what does this imply about the slope of the IS curve ?

Calculate the value of the consumption function at each level of income in the following table if autonomous consumption = 300, taxes = 200, and mpc = 0.9.
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