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27 Aggregate Demand - UW · PDF fileSECTION 8 AGGREGATE DEMAND AND AGGREGATE SUPPLY 29 27 Aggregate Demand 28 Aggregate Supply 29 The AD-AS Model

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  • S E C T I O N 8 A G G R E G A T E D E M A N D A N D A G G R E G A T E S U P P L Y

    29

    27 Aggregate Demand

    28 Aggregate Supply

    29 The AD-AS Model

  • The ASAD Model The AS-AD model uses the AS curve and the AD

    curve together to analyze economic fluctuations.

    Slide 2

  • Short-Run Macroeconomic Equilibrium The economy is in short-run macroeconomic

    equilibrium when the quantity of aggregate output supplied is equal to the quantity demanded.

    The short-run equilibrium aggregate price level

    is the aggregate price level in the short-run macroeconomic equilibrium.

    Short-run equilibrium aggregate output is the

    quantity of aggregate output produced in the short-run macroeconomic equilibrium.

    Slide 3

  • The ASAD Model

    Slide 4

    Y E

    P E E SR

    S R AS

    AD

    Real GDP

    Short-run macroeconomic

    equilibrium

    Aggregate price level

  • Macroeconomic Shocks

    If a demand or supply shock hits the economy, AD or AS shifts and moves the economy to a new equilibrium.

    Slide 5

  • Demand Shocks

    Slide 6

    Y 2

    2 P 2

    AD 2

    A negative demand shock...

    Y 1

    E 1

    E

    S R AS

    AD 1

    Y 1

    2

    E 1

    S R AS

    AD 1

    P 1

    P 1

    Real GDP

    Aggregate price level

    Real GDP

    Aggregate price level

    ...leads to a higher aggregate price level and higher

    aggregate output.

    (a) A Negative Demand Shock (b) A Positive Demand Shock

    E P 2

    Y 2

    AD 2

    A positive demand shock...

    ...leads to a lower aggregate price level and lower aggregate

    output.

  • Supply Shocks

    Slide 7

    P 1

    AD

    Y 1

    E 1

    Real GDP

    Aggregate price level

    (a) A Negative Supply Shock

    SRAS 1 SRAS

    Y 2

    2 E

    P 2

    2

    Y 1

    1

    AD

    E 2

    E

    SRAS

    P 1

    Real GDP

    Aggregate price level

    (b) A Positive Supply Shock

    P 2

    Y 2

    SRAS 2 1

    A negative supply shock...

    leads to a lower aggregate output

    and a higher aggregate price

    level.

    ...leads to a higher aggregate output

    and lower aggregate price

    level.

    A positive supply shock...

  • Long-Run Macroeconomic Equilibrium

    The economy is in long-run macroeconomic

    equilibrium when the point of short-run macroeconomic equilibrium is on the long-run aggregate supply curve.

    Slide 8

  • Long-Run Macroeconomic Equilibrium

    Slide 9

    Y P

    P E

    S R AS

    L R AS

    AD

    E LR

    Real GDP

    Aggregate price level

    Long-run macroeconomic equilibrium

    Potential output

  • SR vs LR Effects of a Negative Demand Shock

    Slide 10

    Y 1

    P E 1

    2

    S R AS 1 L R AS

    AD 1

    Real GDP

    Aggregate price level

    Potential output

    E 3 P 3

    SRAS 2

    3. until an eventual fall in nominal wages

    in the long run increases short-run aggregate

    supply and moves the economy back to potential output.

    2

    2. reduces the aggregate price level and aggregate

    output and leads to higher unemployment in the short run

    AD 2

    Recessionary gap

    Y 2

    E

    1. An initial negative

    demand shock

    1

    P

  • SR vs LR Effects of a Positive Demand Shock

    Slide 11

    Y 1

    P 3

    E 3

    E1 P 1

    P

    S R AS 1

    L R AS

    AD

    Real GDP Potential

    output

    AD 2

    1.An initial positive demand shock

    Inflationary gap

    Y 2

    2 E 2 2. increases the

    aggregate price level and aggregate output

    and reduces unemployment

    in the short run 1

    Aggregate price level

  • Long-Run Macroeconomic Equilibrium The economy is self-correcting when shocks to AD affect aggregate output in the short run, but not the long run.

    Stabilization policy is the use of government policy to reduce the severity of recessions and rein in excessively strong expansions.

    If policy makers react quickly to a fall in aggregate demand, they can use monetary or fiscal policy to shift the AD curve back to the right.

    Unlike demand shocks, there are no government policies that can easily react to shocks an AS shock.

    Slide 12

    Slide Number 1The ASAD ModelShort-Run Macroeconomic EquilibriumThe ASAD ModelMacroeconomic ShocksDemand ShocksSupply ShocksLong-Run Macroeconomic EquilibriumLong-Run Macroeconomic EquilibriumSR vs LR Effects of a Negative Demand ShockSR vs LR Effects of a Positive Demand ShockLong-Run Macroeconomic Equilibrium

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