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© 2014 Pearson Canada Inc.#
What do economists mean by the word "investment"?
Answer: Economists use the word investment somewhat differently from other people. When
people say that they are making an investment, they are normally referring to the purchase of
common stocks or bonds, purchases that do not necessarily involve newly produced goods and
services. But when economists speak of investment spending, they are referring to the purchase
of new physical assets such as new machines or new house—purchases that add to aggregate
demand.
Diff: 2 Type: SA Page Ref: 543
Skill: Recall
Objective List: 22.1 Utilize the Keynesian cross model for the determination of aggregate output
What types of investment exist according to Keynes's theory of the determination of
aggregate output? what is a major difference between the two according to Keynes?
Answer: According to Keynes there are two types of investment. The first type is fixed
investment, the spending by firms on equipment and structures and spending on housing. The
second type is inventory investment, spending by firms on additional holdings of raw materials,
parts, and finished goods, calculated as the change in holdings of these items in a given period
say a year. The main difference between the two types of investment is that according to Keynes
fixed investment is always planned, while inventory investment can be unplanned.
Diff: 2 Type: SA Page Ref: 543
Skill: Recall
Objective List: 22.1 Utilize the Keynesian cross model for the determination of aggregate output
How is Keynes's consumption function defined? describe the terms used in this function?
Answer: According to Keynes the consumer expenditure is related not to aggregate income, but
to disposable income, the total income available for spending, equal to aggregate income (which
is equivalent to aggregate output) minus taxes: Y - T. Keynes called the relationship between
disposable income YD and consumer expenditure C the consumption function and expressed it
as: C = a + (mpc × YD). The term mpc is the marginal propensity to consume, the term a stands
for autonomous consumer expenditure, the amount of consumer expenditure that is independent
of disposable income.
Diff: 2 Type: SA Page Ref: 542 - 543
Skill: Recall
Objective List: 22.1 Utilize the Keynesian cross model for the determination of aggregate output