Transcript Aggregate Demand & Aggregate Supply

Aggregate Demand &
Aggregate Supply
Chapter 11
Introduction
AD-AS model is a variable price model.
Aggregate Expenditures in chapters nine
& ten assumed constant price level.
AD-AS Model provides insight into
inflation, unemployment, & economic
growth
Aggregate Demand (AD)
Shows various amounts of real domestic
output at various price levels that both
foreign and domestic buyers will purchase
at each level.
Inverse relationship between price level &
domestic output
No longer will substitution and income
effects apply. Only works for individual
product demand, not aggregates.
Reasons for the Inverse
Relationship
Real Balances Effect – When price level falls,
purchasing power rises and spending increases
Interest Rate Effect – Decline in price level
lowers interest rates which increases certain
types of spending
Foreign Purchases Effect – When price level
falls, US prices decrease relative to foreign
prices, export spending increases while import
spending decreases
Deriving AD-curve from Aggregate
Expenditures Model
Both measure Real GDP on Horizontal
Axis
As price level increases, wealth
decreases, interest rates rise, net exports
fall, equilibrium GDP decreases (moves
downward along the curve)
Determinants of Aggregate
Demand for Consumers
Changes in consumer spending are
affected by several factors:
Consumer wealth
Consumer expectations
Consumer debt
Taxes
Determinants of Aggregate
Demand for Businesses
Changes in investment spending caused
by:
Interest Rates
Profit Expectations
Business Taxes
Technology
Excess capacity (unused capital)
Government Spending
Increased Government purchases
increase aggregate spending so long as
taxes remain at the same level
Example – Military cutbacks push the
aggregate model to the left
Net Exports
Changes in net export spending not
related to price level:
Income abroad
Exchange Rates
Aggregate Shifts & the Demand
Model
Change in determinants = change in
aggregate expenditures
Multiplier effect still applies if price level
remains constant
Shift of AD Curve = initial change in
spending x multiplier
Aggregate Supply
Shows level of domestic output firms will
produce at each price level
Positive relationship between real output
and price level
3 Segments of Agg. Supply
Horizontal – Price level constant.
Substantial output variation, economy far
below full-employment output level
(recessionary)
Upsloping (intermediate) range – price
level rising, resource markets near full
employment raising production costs
Vertical – assumed full capacity, natural
unemployment achieved
Aggregate Supply Determinants
Resource Availability (factors of
production)
Prices of imported resources
Market power in certain industries (OPEC)
Productivity changes
Government regulation
Business Taxes
Equilibrium
The point of intersection between the
aggregate demand and aggregate supply
Equilibrium will shift when you have
changes in demand determinants
As price level rises, multiplier effect is
weakened