1. TRUE/FALSE/MAYBE and EXPLAIN: (2 MARKS). (Maximum length: half-page) "The Aggregate Expenditure (A) model is a short-run model. The Solow-Swan model is a long-run model. Yet both assume that there are no "idle funds", i.e. any funds not consumed are saved and automatically funneled into investment. How can this be possible given that there can be output gaps in the short run?"

Answer: Aggregate expenditure model explain that aggregate expenditure is nothing but the total expenditure which all household and firm want to spend on the goods and services in a particular period at different level of national income (NI) at fixed price. It is Sum of consumption expenditure and investment expenditure (AE = C + I). The Solow -swan model – A neoclassical long run growth model with the production is a function of endogenous labour and capital but exogenous technology. Both above mention model assumes that there are no idle funds in the economy but with different reason. It cannot be irrational to think that in long run the saving of households and firm channelize to the investment as assumed in the Solow-swan model but in short run aggregate expenditure model saving does not turn into investment directly but as a proxy of investment as firm chose to build the inventory investment which is over and above the require investment to meet the output gaps. The firm’s inventory expenditure turn the saving into investment indirectly as increase in demand lower the desired level of inventory investment which motivate business firm to invest in inventory. Therefore, it is possible that the saving automatically funneled into investment even in short run.