If planned saving is less than planned investment, what changes will bring economy in equilibrium?
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- In Keynesian theory, economy will be in equilibrium when planned saving[S] is equal to planned investment(I).
- In the above figure, the equilibrium level of national income is attained at point E, where saving = investment which is derived from a point where AD = AS.
C + I = C + S
I = S
- If, due to some disturbance, we divert from our position, like i. When planned saving is less than planned investment,
- At any lower level of output, say Y, in figure, planned saving is less than planned Investment.
- This means that households are consuming more than firms are expecting.
- This will lead to an unplanned, undesired decrease in inventories.
- Firms would then respond to this unplanned inventory decrease by increasing employment and hence output.
- This process of increase in output will continue until economy is back at point E, where planned saving = planned Investment.
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