“In an economy ex-ante Aggregate Demand is more than ex-ante Aggregate Supply.” Explain its impact on the level of output, income and employment. For a hypothetical economy, assuming there is an increase in the Marginal Propensity to Consume (MPC) from 75% to 90% and change in investment to be Rs. 1,000 crore. Using the concept of investment multiplier, calculate the increase in income due to change in Marginal Propensity to Consume (MPC).

Question

Accepted Answer

When ex-ante Aggregate Demand is more than ex-ante Aggregate Supply, there is excess demand in the economy. This has the following impact:

**Impact on Output, Income and Employment:**

1. **Inventory Depletion:** Firms sell more than they produce, leading to unplanned decrease in inventories.
2. **Production Increase:** To meet excess demand, firms increase production.
3. **Income Rise:** Higher production leads to higher factor payments, increasing national income.
4. **Employment Increase:** More production requires more labor, increasing employment.

**Hypothetical Example:**
If autonomous investment increases by ₹100 crore and MPS = 0.2, then:
- Multiplier (K) = 1/MPS = 1/0.2 = 5
- Change in Income (ΔY) = K × ΔI = 5 × 100 = ₹500 crore
- National income increases by ₹500 crore until AD = AS.