[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

aggregate expenditures also must be what households, firms, government, and the
foreign sector want to spend in total at that level of national income (output), as represented
by the aggregate expenditures schedule. Only point E 0 is consistent with
both conditions.
The second way is to consider what happens at a level of income, Y 1 , in excess of
Y 0 . At that point, the aggregate expenditures schedule lies below the 45-degree line.
What households, firms, government, and the foreign sector would like to spend at
that level of national income, as reflected in the aggregate expenditures schedule, is
less than national income (output). More goods are being produced than individuals
want to buy. Some of the goods, like strawberries, cannot be stored. They simply
spoil. The goods that can be stored go into inventories. Since firms find they cannot
sell all the goods they produced, the income level Y 1 is not the equilibrium level of
output. Firms will respond by cutting back production until national income falls to
Y 0 . At Y 2 , in contrast, the aggregate expenditures schedule lies above the 45-degree
line. Households, firms, government, and the foreign sector are spending more than
national income. They are purchasing more than what is being produced. This is
possible (temporarily) because firms can sell out of inventories. When firms find
they are selling more than they are currently producing, they respond by increasing
production. Aggregate output rises until equilibrium is restored at Y 0 .
SHIFTS IN THE AGGREGATE EXPENDITURES
SCHEDULE
The aggregate expenditures schedule can shift through a variety of changes in the
economy that lead households, firms, the government, and the foreign sector to
decide, at each level of income, to spend more or less. Panel A of Figure 30.2 shows
what happens if the level of aggregate expenditures increases at each level of national
income by the amount S. The new aggregate expenditures schedule is denoted AE 1 .
Equilibrium output increases from Y 0 to Y 1 . The increase in equilibrium output is
greater than the amount S; the size of the increase depends on the slope of the aggregate
expenditures schedule.
To understand why, think about an economy that is initially in equilibrium at the
output level Y 0 in panel A. At this level of income, the amount that households, firms,
the government, and the foreign sector wish to purchase (given by the AE 0 schedule)
is exactly equal to Y 0 , the amount of output that firms are producing. Now,
planned spending increases at each level of income, represented by the shift of the
aggregate expenditures schedule to AE 1 . If firms continued to produce at Y 0 , demand
would exceed output; inventories would decline and this would signal to firms that
they should increase production.
As output rises, households find that their incomes have risen. This boost leads
them to increase their spending. Consequently, aggregate expenditures end up
increasing by more than the initial amount S that the aggregate expenditures schedule
shifted up. If the aggregate expenditures schedule is steep, a rise in income
increases spending significantly, and the final increase in equilibrium output will be
large. If the schedule is flatter, rising income has a smaller impact on spending, and
664 ∂ CHAPTER 30 AGGREGATE EXPENDITURES AND INCOME