When is an economy in equilibrium ? Explain with the help of saving and investment function. Also explain the changes that take place in an economy when the economy is not in equilibrium. Use diagram.
According to this approach of
equilibrium, the equilibrium is reached only when Investment(I) equals
Savings(S) because at this level there is no tendency for income and output to
change E1 where savings intersects
investment curve At this point, I=S. When S is more than I , then the planned inventory
would fall below the desired level. To bring back the Inventory at the desired
level, the producers expand the output More output means more income. Rise
in output means rise in I and rise in income means rise in S. Both continue to
rise till they reach E1, S=I. When
S is less than I, then the planned inventory rises above the desired level. To
clear the unwanted increase in inventory, firms plan to reduce the output till
S becomes equal to I.So, equilibrium takes place only at point E1, when
S=I.
According to this approach of equilibrium, the equilibrium is reached only when Investment(I) equals Savings(S) because at this level there is no tendency for income and output to change E1 where savings intersects investment curve At this point, I=S. When S is more than I , then the planned inventory would fall below the desired level. To bring back the Inventory at the desired level, the producers expand the output More output means more income. Rise in output means rise in I and rise in income means rise in S. Both continue to rise till they reach E1, S=I. When S is less than I, then the planned inventory rises above the desired level. To clear the unwanted increase in inventory, firms plan to reduce the output till S becomes equal to I.So, equilibrium takes place only at point E1, when S=I.
