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Current time:0:00Total duration:7:09

Video transcript

let's think about what happens to an is curve when government spending government spending goes up and to think about that let's just let's let's first draw our Keynesian cross so on the vertical axis over here we have aggregate expenditures in the horizontal axis right over here we have aggregate income these are really just two ways of talking about GDP and so we are thinking we actually want all the points where the economy's in equilibrium where income is equal to expenditures and so that's why we draw that line of slope one that's all of the points where income is equal to expenditures where our economy is in some type of equilibrium or in equilibrium and then we think about planned expenditures and planned expenditures we've done this multiple times it's equal to aggregate consumer spending which is a function of income minus taxes or it's a function of disposable income and we're not saying C times y minus T we're taking saying C is a function of Y minus T this is one way of talking about our consumption function we assume it's linear in this video and in others but it doesn't have to be it could be a curve of some kind and then we have our planned investment plus planned investment which we're assuming we're assuming that we're sitting at some that our real interest rates are fixed right now so planned investment plus government spending plus government spending and then we can even throw net exports out there if we assume that we have some type of an open economy and this curve our planned investment this is all a review of the Keynesian cross videos it might look something like this it might look something like this and we get to our equilibrium we get to our equilibrium level of GDP and so we can also use this information given that we were sitting here at interest rate r1 to start to at least plot one point to plot one point on our is curve so let's draw at least one point on our is curve and we hopefully you feel good about the general shape of it and then we could think about how the is curve might shift so here we have real interest rates we're trying to rate relate real interest rates to aggregate GDP so we just showed that when we're real interest are sitting at r1 so if this is if this is r1 right over here if real interest rates are sitting at r1 we know that the aggregate level of output or income is that point right over there so we could just drop that down and so it is this level right over here so when real interest rates are r1 this is our output that is a point on our is curve and so we can draw the entire is curve which might look something like might look something like that that is our entire is curve if we kept changing this we kept trying this out for different for different real interest rates we could plot more and more of these points along the is curve and so and it's and this is really thinking in terms of how does real it if real interest rates go up then this whole expression will go down then this thing will be shifted down and so we would have less GDP your equilibrium if this gets shifted down your equilibrium GDP might go over here so at a higher real interest rate you would have lower lower aggregate income and so that's how we actually thought about plotting our highest curve now with all of that out of the way let's think about what happens when government spending goes up well government if government spending goes up if this piece right over here goes up that will shift that will shift our planned expenditures up as well and so your change in government spending so change in gee it would shift this curve up it would let me draw that a little bit neater it would shift this curve up and you would get to a new level of income or equilibrium level of real GDP and that amount we actually this Delta Y which is this amount right over here it's actually going to be equal to the multiplier which is 1 or 1 minus the marginal propensity to consume times our change times our change in government spending but you'll have to worry about this too much for the sake of this video that's just a little bit of review but the whole reason when I'm doing this is we're saying look we're assuming r1 didn't change and when we increased government spending when we increase government spending it's shifted GDP up by that amount so when you increase government spending it shifted at r1 it shifted it by that amount it shifted it by that well that would be true at any of the real interest rates along the is curve and so in general if you increase government spending and you're not changing any of this other stuff then the is curve would shift to the right and if you decreased government spending the is curve would shift to the left so with that in our toolkit now we can think about how a change in government spending might change our equilibrium point in our is LM model and so let's do that so once again real interest rates here we have we have aggregate income or real GDP and then we have our is curve or is curve looks something like that and our LM curve I will do an I will do it in magenta our LM curve might look something like that and so if we have an increase in government spending we already saw the is curve shifts to the right shift to the right I don't want to do that in the same color so it shifts to the right and it will might look something like that and so if our old our old equilibrium real interest rate was sitting here and equilibrium income was sitting here we saw that by increasing the government spending our new our new equilibrium GDP is higher and our new equilibrium interest rate is higher just by the shift to the is curve now you might be saying okay Sal you've been focusing on the is curve but does an increase in government spending does it affect the LM curve doesn't a change in fiscal policy does that affect the LM curve we're not talking about printing more money we're talking about the government spending more increasing its budget well remember the LM curve it's driven by people's liquidity preferences at different levels of GDP how much do they want to hold money and how much are they how much would you have to pay for them in terms of interest for you them to depart with it or how much interest are they willing to pay to get access to money at different levels of GDP so that's not really infected by government spending and it's also impacted by the money supply by the amount of money that are out there and just general levels of prices and you could start to think about all well doesn't government spending affect prices and longer but if we just hold a lot of those things constant especially in the short term if you especially if you hold prices constant fiscal policy is not going to change the LM curve monetary policy the money supply part that could or people's liquidity preferences could but just government policy by itself fiscal policy by itself won't change it so if we in this model just you know not trying to get too over complicated when government spending goes up when G goes up it would shift the is curve to the right increase in real interest rates increase increase in real GDP according to this model