An alternative way of determining equilibrium GDP is to find the level of income where the sum of desired injections equals the sum of desired leakages. Desired injections include Investment (I), Government Spending (G), and Exports (X). Leakages include Saving (S), Taxes (T), and Imports (M). Thus, the condition for equilibrium is:
S + T + M = I + G + X
Subtracting G and M from both side of the above equation gives
S + (T - G) = I + (X - M)
This equation can be interpreted as a generalization of the condition that saving equals investment, since it says that national saving equals asset formation.
What happens when desired national assets formation exceeds desired national saving?
Firms will respond to the imbalance by producing more, moving the economy towards equilibrium.
What happens when desired national saving is more than desired national asset formation?
Firms will cut back on output in order to avoid accumulating excess inventories, and the economy will move towards equilibrium.
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