Question

In Keynesian Cross analysis, if actual expenditure exceeds planned expenditure, explain the process by which output (real GDP) returns to its equilibrium level.

Answer 1

In Keynesian cross analysis , if actual expenditure exceeds planned expenditure then it implies that output is piling up unsold. As a result , firms cut down their production and because of this output level goes down. And output level return to its Equilibrium level where actual expenditure is equal to planned expenditure. Actual expenditure is represented by the 45° line from the origin and aggregate planned expenditure is the sum of Consumption , investment , government purchases and net exports.

When AE> PE , this implies that the output level lies to the right of Equilibrium level.Hence, output level falls and return to its equilibrium level.