Explain The Effect Of An Increase In Consumer Income

Explain the effect of an increase in consumer income on

Your assignment requires three responses, each approximately half a page in length, supported by references from the FNU Library, and formatted according to APA standards. The responses should include a cover page, each question on a separate page, and a references page. Proper in-text citations are necessary, and the submission must be via SafeAssign with at least 70% originality. The specific questions are:

1. Explain the effect of an increase in consumer income on the demand for a good.
2. In your own words, explain the logic of the income-expenditure model. What determines the amount of real GDP demanded?
3. Define the economy's potential output. What factors help determine potential output?

Paper For Above instruction

The relationship between consumer income and demand for goods is fundamental in understanding market dynamics. An increase in consumer income generally leads to an increase in the demand for most goods and services, particularly normal goods. Normal goods are those for which demand rises as consumer income increases, reflecting an increased purchasing power. When consumers have higher disposable income, they tend to buy more of these goods, resulting in a rightward shift of the demand curve (Mankiw, 2021). Conversely, demand for inferior goods may decrease as consumers opt for higher-quality alternatives when their income rises. This variation in demand based on income changes exemplifies the income effect, illustrating how consumer purchasing behavior responds to income fluctuations. Furthermore, the magnitude of demand increase depends on the elasticity of demand for specific goods, with more elastic goods experiencing more significant demand shifts (Krugman & Wells, 2018). The overall impact is an elevation in market quantities sold, influencing production and economic growth.

The income-expenditure model, also known as Keynesian cross model, offers a framework to understand how total spending in an economy determines output and income. It underscores the idea that aggregate demand influences real GDP. The core logic lies in the relationship between consumption, investment, government spending, and net exports, which collectively form total spending. In this model, the level of aggregate expenditure depends on income itself—higher income leads to higher consumption, which boosts spending. Conversely, a decrease in income reduces consumption and total demand. The amount of real GDP demanded is determined by the aggregate expenditure that equals total output at equilibrium, where planned spending equals actual output (Mankiw, 2021). Factors such as consumer confidence, fiscal policy, and interest rates impact this equilibrium by affecting consumption and investment, thus influencing the overall level of real GDP demanded.

Potential output refers to the maximum sustainable output an economy can produce when operating at full capacity, employing its resources fully and efficiently without triggering inflation. It reflects the economy's long-term productive capacity based on available technology, resources, and labor force. Several factors influence potential output. Technological advancements enhance productivity and expand capacity, allowing the economy to produce more goods and services (Barro & Sala-i-Martin, 2020). The quantity and quality of capital stock, such as machinery and infrastructure, also determine potential output. An educated and skilled workforce boosts productivity, contributing to higher potential output. Additionally, institutional factors such as legal systems, property rights, and political stability promote economic efficiency and growth potential. Investments in human capital, improvements in infrastructure, and technological innovation are crucial elements that help increase potential output, fostering sustainable economic growth over the long term (OECD, 2020).

References

• Barro, R. J., & Sala-i-Martin, X. (2020). Economic Growth. MIT Press.
• Krugman, P. R., & Wells, R. (2018). Economics (5th ed.). Worth Publishers.
• Mankiw, N. G. (2021). Principles of Economics (9th ed.). Cengage Learning.
• OECD. (2020). Investing in Human Capital: The Road to Growth and Development. OECD Publishing.