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AP Macroeconomics. Unit 3. AP Macroeconomics. Unit 3 Lesson 1. Aggregate Demand. Schedule showing quantity demanded for all goods/services (measured as Real GDP) in the economy at each price level (measured with a price index). Aggregate Demand. - PowerPoint PPT Presentation
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AP Macroeconomics
Unit 3
AP Macroeconomics
Unit 3Lesson 1
Aggregate Demand
Schedule showing quantity demanded for all goods/services (measured as Real GDP) in the economy at each price level (measured with a price index).
Aggregate Demand Why is the aggregate
demand curve downward sloping?
Wealth Effect: “If price levels go down, the money I have has more purchasing power, so I buy more stuff.”
Aggregate Demand Why downward sloping? Interest-Rate Effect:**
“As price levels rise, bank acct. balances fall, and interest rates…
rise, which lowers investment, causing Real GDP to…
FALL!”
Aggregate Demand Why downward sloping? Foreign Purchases
Effect: “As U.S. price levels rise relative to other countries, they demand less of our stuff, causing real GDP to fall.”
Aggregate Demand
The components of aggregate demand are the variables from the GDP expenditure model: GDP=C+I+G+(X-M)
What causes AD to shift?
Changes in C,I,G, or Nx
Consumer Spending consumer expectations wealth(change in stock P’s) debt affect DI taxes (fiscal policy) interest rates (monetary policy)
What causes AD to shift?
Investment Spending interest rates (monetary) profit expectations business taxes technology production capacity (excess
causes I , AD shifts left)
What causes AD to shift?
Interest rates are correlated inversely with Investment.
Sketch this out! So, ceteris
paribus, when i goes up, I goes down, bringing AD down also.
Investment Demand Curve
What causes AD to shift?
What causes AD to shift? Changes in Gov’t Spending
ceteris paribus, if G increases, AD increases
Aggregate Demand What causes AD to shift? Changes in Net Exports
an increase in foreign income will cause their demand for our stuff to increase, Nx , AD shifts right
exchange rates: if the value of USD falls relative to other currencies, Nx , AD shifts right
a23b
AP Macroeconomics
Unit 3Lesson 2
Aggregate Supply
Schedule showing the amount of goods/services firms will produce at various price levels.
Aggregate Supply
Three Views of A.S.:
The vertical area represents full employment (Classical range).
The flat area represents unused resources (Keynesian range).
Aggregate Supply
In the short-run, wages and prices are “sticky”.
Examples: Even if prices are falling, workers are
usually not very open to having their wages cut.
Many businesses try to keep their prices stable. Frequently changing prices can make consumers mad.
Aggregate Supply
Long-run aggregate-supply is vertical b/c, in the long-run, wages/prices are flexible (Classical).
Also, in the long-run, a country’s production depends on its supplies of productive resources & technology; not price levels!
LRAS represents full employment. Can production
occur beyond LRAS? How?
Aggregate Supply
Economic growth shifts LRAS rightward.
From this point on we will use a “regular” AS curve.
Aggregate Supply
What causes AS to shift? Changes in:
Input costs Productivity Producer expectations Gov’t involvement
Regulations Business Taxes Subsidies
a24b
AP Macroeconomics
Unit 3Lesson 3
Macroeconomic Equilibrium
-is where short-run aggregate supply and aggregate demand meet.
Macroeconomic Equilibrium
Remember, business taxes cause AD to shift. Why?
So, how would an increase in business taxes affect AD? AS? PL? RGDP?
A25 b,c
Macroeconomic Equilibrium
Long-run macroeconomic equilibrium
-is where short-run aggregate supply, aggregate demand, and long-run aggregate supply meet.
Macroeconomic Equilibrium
In the long run, the economy always (and naturally) gravitates towards full employment levels of real GDP.
SRAS (eventually) naturally shifts to bring equilibrium to full employment levels.
But sometimes, we don’t want to wait around for this to occur!
Inflation Revisited
Demand-Pull Inflation: an increase in AD “pulls” up the price level.
Cost-Push Inflation: a decrease in AS “pushes” up the price level.
Fiscal Policy
Taxing/Spending for the purposes of affecting the economy. Typically, this results in a shift in the AD curve. expansionary: more spending, less taxes contractionary: less spending, more taxes discretionary: deliberate changes made by
congress & president (i.e. stimulus bill) automatic: “built-in” stabilizers that are
expansionary during recessions and/or contractionary during inflation (unemployment compensation)
a28 a30b(fiscal policy), a31 (1 page) hw: ch20pa (1,2,)
AP Macroeconomics
Unit 3Lesson 4
“Multiplier” and “Crowding Out” Effects
Disposable income has a big effect on AD. Higher disposable income = higher AD... ...because the biggest determinant of
consumption is disposable income. Q: What do people do with their income? A: Spend it or save it
“Multiplier” and “Crowding Out” Effects
Gross Domestic Product - Consumption of fixed capital Net Domestic Product + Net American income earned abroad - Indirect business taxes (sales taxes) National Income (Income Earned) - Social Security Contributions - Corporate Income Taxes - Undistributed corporate profits + Transfer payments Personal Income (Income Received) - Personal Taxes Disposable Income
“Multiplier” and “Crowding Out” Effects
Consumption (C) + Savings (S) = Disposable Income (DI)
The relationship between C, S & Y goes like this: As Y increases, C & S increase, but C increases at a slower rate and S increases at a faster rate Dissaving if C > DI. (S is negative)
“Multiplier” and “Crowding Out” Effects
Average Propensity to Consume (APC)=C/Y This is the fraction of total income consumed
Average Propensity to Save (APS)= S/Y This is the fraction of total income that is saved.
APC + APS = 1 Marginal Prop. to Cons. -the fraction of additional Y consumed rather than saved.
MPC = C/ Y MPS = S/ Y MPC + MPS = 1
“Multiplier” and “Crowding Out” Effects
Consumption Schedules link
Search for: consumption schedule graph Things other than income affect
consumption, and shift the consumption line up or down. i wealth/indebtedness consumer confidence/expectations PL
“Multiplier” and “Crowding Out” Effects
Consumption Schedules assignment When the consumption schedule shifts upward,
what happens to the savings schedule? Why? When the slope of the consumption line
increases (becomes more steep), what happens to the slope of the savings schedule?
What terms do we use for these two slopes?
“Multiplier” and “Crowding Out” Effects
The Multiplier Effect Individual components of AD have a
multiplier effect on AD; when one increases by a $, AD increases by > $.
Who benefits when the gov’t buys $20 billion in planes from Boeing?
Multiplier = 1 / (1-MPC) When C, I, G, or Nx change by X, AD
changes by X [1/(1-MPC)]
“Multiplier” and “Crowding Out” Effects
The Multiplier Effect Taxes have a different multiplier, b/c taxes
affect income. Tax multiplier: -MPC/(1-MPC)
Balanced budget multiplier What happens when the gov’t spends the same
amount as it taxes?
“Multiplier” & “Crowding Out” Effects
A new graph (sort of)! The Money Market shows
how the “price” of money, the interest rate, adjusts to balance the supply of and demand for money.
The money supply is fixed at any one point in time, and therefore is represented by a vertical line.
The Money Market
“Multiplier” & “Crowding Out” Effects
Remember the interest-rate effect?
Can it be explained through the money market?
The Money Market
“Multiplier” & “Crowding Out” Effects
Several things can cause Dm to shift, but for now we’ll just focus on one; G.
Q: If gov’t increases spending but doesn’t collect enough taxes to cover the spending, where does it get the money?
A: By borrowing (mostly)
The Money Market
“Multiplier” & “Crowding Out” Effects
Q: When the government borrows, what happens in the money market?
A: Dm shifts right, and interest rates rise.
The Money Market
“Multiplier” & “Crowding Out” Effects
Q: Are there portions of output (RGDP) that are influenced by interest rates?
A: I, and to a lesser extent, C
We call these “interest rate-sensitive investment and consumption.”
The Money Market
“Multiplier” & “Crowding Out” Effects
The Crowding Out Effect Gov’t spending “crowds
out” i-sensitive I & C . Implications for AD? GDP = C+I+G+Xn The crowding out effect
partially offsets the impact of the increase in G.
“Net Export” Effect
If the government enters the money market to finance the deficit, interest rates will rise. The higher interest rate causes the dollar to appreciate. Therefore, net exports decline, and aggregate demand decreases, which offsets the effects of expansionary fiscal policy.
Done!