How is Equilibrium Income determined in the Short Run?
Students can recollect that in microeconomic theory when we scrutinize the equilibrium of demand and supply in a single market place, the demand and supply curves simultaneously decide the equilibrium cost price and the equilibrium quantity. In macroeconomic theory we can begin in 2 steps: At the first stage, we work out a macroeconomic equilibrium taking the cost price level as fixed. At the second stage, we allow the cost price degree to vary and again, scrutinize macroeconomic equilibrium.
What is the justification for taking the cost price degree as fixed? Two reasons can be put forward :
- At the initial stage, we are presuming an economy with unused resources: machinery, buildings and employees or labours. In such a situation, the law of diminishing returns will not apply; hence the additional output can be manufactured without increasing marginal cost
- Accordingly, cost price level does not differ even if the quantity manufactured changes
- This is just a simplifying presumption which will be changed later
|Q.1- EXPLAIN DETERMINATION OF EQUILIBRIUM LEVEL OF INCOME USING ‘CONSUMPTION|
|Q.2- EXPLAIN THE CHANGES THAT TAKE PLACE WHEN AGGREGATE DEMAND AND AGGREGATE SUPPLY ARE NOT EQUAL.
HOW DOES ADJUSTMENT MECHANISM WORKS TO REACH EQUILIBRIUM LEVEL IF AD AND AS ARE NOT EQUAL?
i.e. ECONOMY IS OPERATING AT ANY LEVEL BEFORE THE EQUILIBRIUM
i.e. ECONOMY IS OPERATING AT ANY LEVEL BEYOND THE EQUILIBRIUM
|Q.3-EXPLAIN HOW EQUILIBRIUM LEVEL OF INCOME IS DETERMINED WITH THE HELP OF
AGGREGATE DEMAND AND AGGREGATE SUPPLY SCHEDULE.
EXPLAIN DETERMINATION OF EQUILIBRIUM LEVEL OF INCOME USING ‘CONSUMPTION
PLUS INVESTMENT’ APPROACH. USE HYPOTHETICAL SCHEDULE.
|· According to the Keynesian theory, the equilibrium level of income, in an economy, is determined at the level of output whereof AD represented by C+I is exactly equal to AS (Output) which is the sum of C & S.|
|Income (Y)||Consumption ( C)||Savings (S)||Investment
|In the above schedule, the equilibrium level of national income is `400 crores. Because:
The above mentioned is the concept that is explained in detail about Determination of Equilibrium Income in the Short Run for the class 12 Macroeconomics. To know more, stay tuned to BYJU’S.