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Introduction

National income is the total income earned by the nation over a period of time

 

Point: A fall in housing prices in the US → Fall in the consumption expenditure and investment expenditure

  • Banks in the US have great exposure in the subprime mortgage market
    • If housing prices in the US fall → Borrowers in the market may default on their loans → Banks may make huge losses → Close down
    • Furthermore, due to interbank debt, the closure of some banks in the US will lead to closure of more banks → Domino effect → Collapse of banking system → Some households in the US will not be able to borrow for consumption + Some firms will not be able to borrow for investment → Fall in consumption expenditure and investment expenditure
  • Fall in value of houses → Discretionary spending → Rise in marginal propensity to save + Fall in marginal propensity to consume → Fall in consumption expenditure

 

Point: A fall in consumption expenditure and investment expenditure in the US → Fall in the aggregate demand → Fall in the national income of Singapore

  • Aggregate demand is the total demand for the goods and services produced in the economy over a period of time
    • Comprised of consumption expenditure, investment expenditure, government expenditure on goods and services + net exports
  • Households in US decrease consumption expenditure → Purchase both less domestic and imported goods → Purchase less goods and services from Singapore → Fall in exports in Singapore
  • Firms in US decrease investment expenditure → Invest both less in US and other economies such as Singapore → Fall in foreign direct investments in Singapore
  • Fall in foreign direct investments + Fall in exports in Singapore → Fall in aggregate demand → Fall in national income

In the above diagram, a fall in aggregate demand (AD) from AD0 to AD1 leads to a fall in national income (Y) from Y0 to Y1

  • Aggregate demand falls → Unplanned rise in inventories → Firms cut down on output → Employ less factor inputs → Pay less factor income to households → Household income falls → Consumption expenditure falls
  • Consumption expenditure falls → Firms produce even less output → Employ less factor inputs → Pay even less factor income to households → Further fall in household income → Further fall in consumption expenditure
  • Fall in aggregate demand in Singapore → Larger fall in national income
    • Known as reverse multiplier effect

 

Conclusion

  • Fall in housing prices in US → Fall in national income in Singapore exacerbated by reverse multiplier effect → Fall in standard of living, ceteris paribus
  • Therefore, the government needs to enact policies to cushion the effect of a decline in housing prices in the US on the Singapore economy
  • Closeness of economy (Dependency) -> Large fall in X

 

 

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