Introduction to Economics 2 Dersi 2. Ünite Sorularla Öğrenelim

What does the assumption that prices are constant mean? 

The assumption that prices are constant means that:

• The level of total production in the country is infinitely flexible. According to this approach, which was included in the economic theory by John Maynard Keynes during the Great Depression, there is always an idle capacity to meet the increasing demand in the economy. This means that the level of production will be determined by demand (the demand here is the effective aggregate demand), in other words by aggregate expenditures.
• There is an unemployment and idle production capacity in the economy. In such an environment, firms can increase production by employing more workers without incurring any additional cost and this does not exert any pressure on prices to increase.

What is consumption function?

The main factor determining the consumption expenditures to be made in a given period is the income level. Along with the increase in income, the desire and purchasing power of households to make consumption expenditures also increases. This linear and positive relationship between income and consumption expenditures is called consumption function. Consumption function refers to the positive linear relationship between income and consumption expenditures.

What is saving function?

Saving function refers to the relationship between income level and savings.

What is negative saving?

If a household spends more than its income, it has to cover the excess of expenditures by borrowing or using the savings made before. This is called negative saving. Negative saving is the part of the expenditure that exceeds the income.

What is autonomous consumption?

Even if the income level is zero, consumption expenditures are positive. This shows that there is a part of the consumption expenditures that is not related to income. This part of the consumption expenditure, which is independent of income, is called autonomous consumption. Autonomous consumption is the portion of consumption expenditures that is independent of income.

What is marginal propensity to consume?

What is marginal propensity to save?

Marginal propensity to save (MPS) reveals the relationship between the income change and the saving change and is calculated as the ratio of the saving change to the income change.

What is the portion of income spent for consumption called? 

The portion of income that is spent for consumption is called average propensity to consume (APC).

What are the principal factors that affect consumption expenditures?

The principal factors that affect consumption expenditures are:

1. Disposable income,
2. Wealth,
3. Expectations,
4. Demographic factors.

How do demographic factors affect consumption?

When the other factors effecting consumption are assumed to be constant, an increase in population will increase consumption expenditures. Here, both the increase in the number of people in the country and the changes in the age composition of the population have an effect on the consumption expenditures. While the size of the population affects the location of the consumption function, the age composition of the population has an effect on the slope of the consumption function. Other factors being constant, an increase in the size of population leads to an increase in autonomous consumption, and therefore the consumption function shifts upward. Considering the age composition of the population, it is known that the young population spends more on durable consumption goods and therefore the young population has a higher marginal propensity to consume than the elderly population. Since the slope of consumption function is measured by MPC, the rising share of the young people in total population will make consumption function steeper.

What are autonomous investments?

Autonomous investments refer to the level of investment expenditures which is determined independent of income.

What are the factors that determine investments?

The factors that determine investments are:

1. Interest rate,
2. Expected profit,
3. Technological change,
4. Cost of capital goods,
5. Capacity utilization.

How does interest rate affect investments?

Interest rate can be defined as the cost of borrowing funds. A large part of the investment expenditures made by the enterprises is covered by borrowing. If the cost of borrowing, i.e., interest rate, increases, fewer investment projects will become profitable. Accordingly, when the interest rate increases, investment expenditures will decrease and when the interest rate falls, investments will increase.

How do technological changes affect investments?

One of the main driving forces behind new investments is technological change. Realizing the production of a new product or using a new production technology can be extremely important in terms of staying within the industry. Technology is important for companies as it increases productivity at each stage in production processes. The use of technology also contributes to a reduction in production costs.

What is export?

The sale of goods and services produced in a country to other countries is called export. 

What factors affect the export volume of a country?

There are a number of factors that determine the export volume of a country. These include income levels, preferences and prices of similar goods in other countries. Limitations that governments put on international trade and the exchange rates can also affect the export volume.

What is import?

Import is the amount of goods and services purchased from other countries.

What is marginal propensity to import?

What is the amount of imports determined by?

The amount of imports is determined by preferences, restrictions imposed on international commercial activities and exchange rates.

How is aggregate expenditure function obtained?

According to macroeconomic equilibrium concept, why are aggregate expenditures important?

According the macroeconomic equilibrium concept, aggregate expenditures play a key role for the determination of production and income level of a country.

Please formulate the real GDP in a close economy and excluding the government.

According to the question, we exclude the government sector, export and import. Therefore the real GDP of this economy can be formulated as Y=C+I or Y=C+S.

Please give information about consumption function.

The main factor determining the consumption expenditures to be made in a given period is the income level. Along with the increase in income, the desire and purchasing power of households to make consumption expenditures also increases.
This linear and positive relationship between income and consumption expenditures is called consumption function.

What is saving function and negative saving?

Saving function is the relationship between income level and saving. On the other hand, negative saving is the part of the expenditure that exceeds the income.

Please give brief information on Marginal Propensity to Consume.

The relationship between the change in income and the change in consumption is called marginal propensity to consume (MPC) and is defined as the ratio of consumption change to income change.

What is MPC if consumption expenditures increase by 700 TL in return for increase of every 1,000 TL in income?

According to our example, consumption expenditures increase by 700 TL in return for increase of every 1,000 TL in income. This means that consumers spend 70 percent of every incremental income they earn:

MPC=700/1000=0.70

If MPC is 0.7, what is MPS?

MPS=1-MPC, therefore, MPS in our example is 1-0.7=0.3.

What is average propensity to consume?

Average propensity to consume is the ratio of consumption expenditures to income: (consumption)/(income).

What is average propensity to save?

Average propensity to save is the ratio of savings to income: (savings)/(income).

For example, if the income is 6,000 TL and the consumption expenditure is 4,500 TL, what is Average propensity to consume (APC)?

APC = 4,500/6,000 = 0.75

If APC is 0.75, what is Average propensity to save (APS)?

Since “APS = 1 - APC”, it can be easily calculated as APS = 1-0.75=0.25.

Please discuss what the wealth is how it affects the consumption?

Wealth: Wealth is the value of all assets that households have. These include houses,
automobiles, bank accounts, stocks and all kinds of assets such as income expected to be obtained in the future. When the wealth of households increases, the available resources that can be allocated for spending increase, too. As a result, the amount of consumption expenditure at each income level will increase.

Please discuss how expectations affect the consumption level?

Another important factor for determining consumption is the expectations about future income, prices and wealth. For example, if consumers expect a stagnation in the
economy, they expect that they will lose their jobs or their working hours will be reduced. Expectations are subjective opinions about the future. It is therefore extremely difficult to observe and measure them. This causes different problems
in terms of analyzing the effects of expectations on consumption. For this reason, expectation surveys are periodically conducted by policy-makers and expectations are monitored in this way.

Discuss how demographic factors affect the level of consumption?

When the other factors effecting consumption are assumed to be constant, an increase in population will increase consumption expenditures. Here, both the increase in the number of people in the country and the changes in the age composition of the population have an effect on the consumption expenditures. While the size of the
population affects the location of the consumption function, the age composition of the population has an effect on the slope of the consumption function. Other factors being constant, an increase in the size of population leads to an increase in autonomous
consumption, and therefore the consumption function shifts upward. Considering the age composition of the population, it is known that the young population spends more on durable consumption goods and therefore the young population has a higher marginal propensity to consume than the elderly population.

Please give brief information on investments.

Investment expenditures cover the expenses incurred by firms in capital goods and inventories. Among the aggregate expenditures, investments are the most volatile one.

What is autonomous investments?

Autonomous investments refer to the level of investment expenditures which is determined independent of income. When examining the determination of national
income in an economy, we will assume that the investments are autonomous to simplify the analysis, i.e. independent of the current income level. However, this does not mean that we assume that investments are fixed at a certain level. There are a number of factors that cause investment spending to change. We assume that GDP is not one of these factors. In this case, we can draw autonomous investment expenditures parallel to the horizontal axis. This means that if the income increases or decreases, the autonomous investment expenditures will not be affected.

Please give information on what planned and unplanned inventory investments?

We have already stated that investment expenditures are made up of expenditures of firms on capital goods and stocks. Capital goods are the equipment they need to carry out production activities and the buildings that firms have. Stocks are composed of final unsold goods. Stocks may be planned or unplanned. For example, a tire firm
will start to have enough winter tires in stock from the autumn to meet the winter tire demand which is expected to intensify in the winter months. Otherwise, the firm’s inadequate stock operation can lead to a reduction in sales and loss of revenue.
For this reason, the investment made by this firm is a planned inventory investment - that is, a stock change. If the firm wants to keep as few unsold winter tires as possible in its stocks until the month of February, and there are still unsold winter tires
in February when it comes, this is an unplanned inventory investment. Unplanned stock changes can be regarded as a sign showing that sales are not as good as expected and that there is too much production in the previous period.

What is interest rate?

Interest rate is the cost of borrowing funds. Interest Rate: The investment objective of
a firm is to be able to obtain profit from this investment. For this reason, the higher the expected profitability of the investments is, the higher the investment amount will be. The main factor determining whether an investment is profitable is the interest rate. Interest rate can be defined as the cost of borrowing funds. A large part of the investment expenditures made by the enterprises is covered by borrowing. If the cost of borrowing, i.e., interest rate, increases, fewer investment projects will become profitable. Accordingly, when the interest rate increases, investment expenditures
will decrease and when the interest rate falls, investments will increase. 

What are the factors determining the investments?

Factors determining the investment are interest rate, expected profit, technological change, cost of capital goods and capacity utilization.

What is import and marginal propensity to import?

Import is the amount of goods and services purchased from other countries. Marginal propensity to import is the ratio of change in import to change in income.

What is export and its determinants?

The sale of goods and services produced in a country to other countries is called export. There are a number of factors that determine the export volume of a country. These include income levels, preferences and prices of similar goods in other countries. Limitations that governments put on international trade and the exchange rates can also affect the export volume.