The Level of Output and Aggregate Demand: the Keynesian Explanation

Abstract

We look at the circular flow of income (Y) in the economy as a whole. Firms (the producing units) pay income to households (the consuming units) whose spending on goods and services determines the receipts, and thus the profits of firms (Fig. 30.1). It follows: The equilibrium output of the economy occurs where spending on goods and services equals spending by firms (including normal profit) on factors of production. The level of production (and employment) is related to the level of spending. Spending may not be sufficient to produce an equilibrium level of output where all factors are fully employed.