Equilibrium level of output is determined where planned spending is equal to the output" Explain with the help of diagram.
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Answer:
According to this approach of equilibrium, the equilibrium level of income or output is reached only when Investment(I) equals Savings(S) because at this level there is no tendency for income and output to change.
In the diagram the equilibrium is at E1 where savings intersects investment curve At this point, I=S.
When S is more than I , then the planned inventory would fall below the desired level. To bring back the Inventory at the desired level, the producers expand the output More output means more income. Rise in output means rise in I and rise in income means rise in S. Both continue to rise till they reach E1, S=I.
When S is less than I, then the planned inventory rises above the desired level. To clear the unwanted increase in inventory, firms plan to reduce the output till S becomes equal to I.
So, equilibrium takes place only at point E1, when S=I.
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