Ex-Ante Aggregate Demand for Final Goods: Meaning and Equilibrium Condition!
(A) Meaning of Ex-ante (Planned) Aggregate demand:
In a two sector (Household and Firm) economy, ex-ante aggregate demand (AD) for final goods is the sum total of ex-ante consumption expenditure (C) and ex-ante investment expenditure (I) on final goods.
Thus, AD has two determinants (measures) C and I which are explained below.
Symbolically:
ADVERTISEMENTS:
AD = C + I
(i) Ex-ante Consumption Expenditure:
This refers to planned (desired) consumption expenditure of households. Consumption function is represented by C = C + bY where indicates autonomous consumption (i.e., consumption expenditure when income is zero), b shows marginal propensity to consume (MPC) and Y stands for level of income. Remember, consumption demand is the total expenditure which all the households in the economy are willing to incur on purchase of goods and services for their personal satisfaction.
(ii) Ex-ante Investment Expenditure:
ADVERTISEMENTS:
This refers to planned investment expenditure of private firms. For simplicity, we assume a constant price and constant rate of interest over short period to determine ex-ante (planned) investment expenditure. Hence, firms plan to invest same amount every year, i.e., I = I where I represents autonomous investment (i.e., independent of income). Remember, investment demand refers to private planned [ex-ante] investment expenditure by the firms. Again, it should be kept in mind that in theory of determination of output (income), all variables are planned (ex-ante) variables.
(B) Equilibrium Condition (Y = A + bY):
An economy is in equilibrium when Aggregate Demand is equal to Aggregate Supply (AD = AS). AD consists of Consumption expenditure (C) and Investment expenditure (I). So, AD = C + I. On the other hand, aggregate supply (AS) or total output represents national income (Y) of a country so that AS = Y (See section 8.5) Thus, in a two sector economy the equilibrium condition AD = AS actually means Y = C + I. Let us further simplify this equation by substituting the values of C and I.
Equilibrium condition implies that whatever is produced by firms is either consumed by the households or invested by the firms. There is neither surplus nor shortage in the economy.