Y(national income) = E(expenditure)
= C(consumption expenditure) + I(investment expenditure)
In the diagram, National Income is branch 4 and Consumption Expenditure is branch 1.
Investment Expenditure is defined as: Spending by firms on capital (a factor of production), for example buildings, equipment or machinery.
So Investment Expenditure would also be on branch 1.
Therefore I thought that Y = I, but I also knew that Y = C because in this simplified model, all of the money that the households receive as income will be spent on goods and services produced by firms.
So Y = I is incorrect.
And if Y = C + I, and Y = C also, then I = 0.
So Y = C, only when the firms do not spend any money on capital.
If the firms do choose to invest money in capital, then National Income will increase (as Y = C + I).
Therefore Consumption Expenditure will then increase (as Y = C).
This means that the firms will have more money so they can buy even more capital goods.
This has the same effect again with National income increasing and so then consumption expenditure increasing.
I have stumbled upon the multiplier effect, except with all withdrawals ignored (savings) in this simple case, the multiplier would be infinite and National Income would continue to increase indefinitely.
