Goods Market Multiplier

Macro-Economic Equilibrium
Meaning and concepts goods market,

Determination of equilibrium level of
income in
Two sector
Three sector and
Four- sector economy
(Goods market equilibrium) with aggregate
expenditure and aggregate output,
1
Equilibrium with saving and investment
Definition
The Goods and Services Market is where
households purchase consumable items and
businesses sell their desired items.
This market includes stores, the Internet, and

any other place where consumer goods and
services are exchanged.
The aggregate demand for goods and services is
defined as AD = Cd + Id + G0
2
Aggregate Supply is determined by the interaction of
the production function with the labor market. That is, AS = Y =
full employment output.
Equilibrium occurs when the aggregate demand for

goods and services is equal to the aggregate supply
of goods and services (real GDP)
Thus, the goods market equilibrium condition is
AS = AD
Y = Cd + Id + G0.
Determination of equilibrium level of income in
Two sector
3
Three sector and Four sector
economy
(Goods market equilibrium)
Three Sector Model
A three-sector model of income determination consists
of a two-sector model and the government sector. Government
increases aggregate demand by spending on goods and
services, and by collecting taxes.
Government Expenditure: Government

spending or expenditure includes all
4
government consumption, investment, and transfer
payments ( Unemployment allowance, Old age
pension, Subsidies etc).
By adding government expenditure (G) to
twosector model, we have
Y= C + I + G
Similarly, by adding government expenditure
(G) to the saving and investment equation, when we
have
Y=C+I+G
Y=C+S
[S= Y-C]
5
Graphically,
6
Effect on Saving and Investment
The effect of a tax on saving and investment also
determines the equilibrium of national income as
follows:
Y = C+I+G
Y=C+S+T
Y= C+I+G = C+S+T
let, K= I+G = S+T
7
Four Sector Model
we shall have to add imports and exports and
8
government expenditures and taxation in our analysis.
Government expenditures- raise the demand for

goods which is injections in the national income.
Taxes are leakages in the national income which

reduce the demand for consumer goods.
The impact of exports and imports is similar to
government expenditure.
Exports are injections because they increase the

demand for goods in the same economy.
9
Imports are leakages in the national income
because they represent the supply of goods to the
given economy.
Assumptions
 Domestic economy’s international trade is small
relative to total world trade
 There is less than full employment in the economy
 General price level is constant up to the full
employment level
 Exchange rates are fixed
10
 There are no tariffs, trade and exchange
restrictions
Gross exports are determined by external
factors
Exports (A), investment (I) and government
expenditure (G) are autonomous.
Consumption (C), imports (M), savings (S)
and taxes (I) are fixed proportion of national
income (Y)
Determination of Equilibrium Level of Income:
11
Given these assumptions, an open economy is in equilibrium
when its national expenditure (E) is equal to national
income (Y).
This can be shown in the following equation for the

equilibrium level of income:
Y= E=C+I+G+(X-M)
But Y = C+S+T
C+S+T= C+I+G+(X-M)
In the above analysis, C+S+T is gross national
income (GNI) and C+I+G+(X-M) is gross national
expenditure (GNE).
12
Thus, the equilibrium level of income in an economy
is determined when aggregate supply, GNI=GNE,
aggregate demand, C+S+T=C+I+G+(X-M).
13
14
Numerical
Suppose a structural model of three sector
economy is given as follows:
C = 200 +0.8(Y-T)
I = 100, G = 150, T =50 +0.2Y
Find,
(a) National Income Equilibrium
(b) Tax multiplier
Solution,
15
(a) Calculating National income Equilibrium in three sector economy based
on above information, we have
Income (Y) = Consumption(C) + Investment (I) +
Government Expenditure (G) Y = C + I + G
or, Y = 200 +0.8(Y-T) + 100 + 150 or, Y =
200 +0.8{Y- (50 + 0.2Y)} +100 +150 or, Y
= 410 + 0.64Y or, Y – 0.64Y = 410 or,
0.26Y = 410
Y = 410/0.26 = Rs.1138.89 Billions
Since, tax multiplier (Tm) = -b/1-b
Here, b= 0.80
Then, Tm = -0.80/1-0.80 = - 4
Therefore, equilibrium national income y = 1138.89 million
and tax multiplier (Tm) = - 4
16
Consider a three sectors behavioral

equations:
C=20+0.5Yd; T=20; I=500; G=250
a. Find the equilibrium level of income, and
Government expenditure multiplier.
b. What would be the equilibrium level of income if
marginal propensity to consume (MPC) changes
from 0.5 to 0.8? Does it also change the value
Government expenditure multiplier?
Consider a three sectors behavioral equations:
C=50+0.6Yd; T=30; I=1000; G=500
17
Where symbols have their usual meaning;
Find out,
(a) Equilibrium level of income.
(b) Drive expressions for Government expenditure multiplier
for same model given above.
(c) If tax function is taken instead T=30+0.2Y, will it alter the
equilibrium level of income? Show necessary
calculations.
Multiplier
Concept:
18
The concept of multiplier is an integral part of Keyne’s
theory of employment.
Keynes used the multiplier concept in his book

“General theory of Employment, Interest and
Money” in 1936.
Multiplier is an important tool of income propagation

and business cycle analysis.
 The relationship between an initial increase in
investment and final increase in total income is
known as
19
Investment multiplier or
Income multiplier or,
simple multiplier
 According to Keynes, “Investment multiplier tells

us that when there is an incensement of aggregate
investment; income will increase by an amount
which is ‘K’ times the incensement of investment”.
In short,
multiplier tells that how many times the
income increases as a result of an initial increase
in investment.
20
 On given MPC,
multiplier establishes a quantitative
relationship between aggregate income or
employment and the investment.
 The multiplier is expressed as,
K = ∆Y/∆I …………………. (i)
Where,
∆Y = Increased Income
∆I = Change in Investment
K = Multiplier
21
 Derivation of Investment Multiplier: Two
sector multiplier
Three Sector multiplier Four
Sector multiplier
It can be expressed in the following mathematical form:
22

Goods Market Multiplier

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Macro-Economic Equilibrium

Meaning and concepts goods market,

This market includes stores, the Internet, and

Equilibrium occurs when the aggregate demand for

Government Expenditure: Government

Government expenditures- raise the demand for

Taxes are leakages in the national income which

Exports are injections because they increase the

This can be shown in the following equation for the

Keynes used the multiplier concept in his book

Multiplier is an important tool of income propagation

 According to Keynes, “Investment multiplier tells

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