Chapter 8 Income Determination And Multiplier
Aggregate Demand And Aggregate Supply Approach (AD - AS Approach)
Statement: Equilibrium level of Income & Employment in an economy is attained where AD is equal to AS.
Aggregate Demand: It refers to the total demand for goods & services in an economy.
Aggregate Supply: It refers to the value of goods & services produced in an economy.
Schedule:
Diagram:
In the above diagram (E) Is the point of Equilibrium where AD = AS, before E, AD > AS and after E, AD< AS.
Effective Demand: That level of AD which helps in determining equilibrium level of income and employment OR AD which equal to AS.
Investment And Savings Approach ( I & S Approach)
Statement: Equilibrium level of income & employment is determined where the level of planned savings are equal to the level of planned investment
I = S
Savings: That part of Income which is not spent on consumption.
Investment: Money spent on creation of fixed assets.
Schedule:
Diagram:
Investment Multiplier Approach
It shows the relationship between the resulting increases in income due to initial increases in the investment.
It is the ratio of change in income(Y), to change in Investment (I). It is denoted by (K)
K = change in income / Change in investment
Working Of Multiplier:
This working is based on an assumption that expenditure of one person is the income of another person which means expenditure of A is income of B & expenditure of B is the income of C & so on.
Lets suppose govt invests rupees 100 crores in a factor. This initial increases in investment would lead to an increase in the income of workers by rupees 100 crores.
Now lets suppose that MPC in the economy is 0.9 which means 90% of increase in income is spent on consumption. so workers will consume rupees 90 crores by spending on goods & services. This expenditure of workers will become income of some other party, which would again consume 90% of 90 crores & so on. This process would continue till the time when change in Income = Change in savings.
So, in this manner the income will keep on multiplying.
Schedule:
K = 1 / 1- MPC
K= 1 / 1- 0.9
K = 1/ 0.1
K = 10
change in Y = change in I * K
= 100 * 10
= 1000
K = change in Y / Change in I
K = 1000 / 100
K = 10
So, we can see here that income has got multiplied 10 times.
- Full Employment: It refers to a situation in which all the able bodied persons who are willing to work are actually employed.
- Voluntary Unemployment: When a person is able to work & work is also available but the person is not willing to work.
- Involuntary Unemployment: When a person is able & willing to work but the appropriate work is not available.
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