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Chapter 34
Aggregate Demandand
Aggregate Supply
Field Trip
SAMAPermission FormTuesday April 30
Key Termsrecessiondepressionnatural rate of outputstagflation
Economic Cycle
Fluctuations
Economic Cycle
AD-AS Model
Aggregate Demand and
Aggregate Supply
Recession
A period of declining real incomes and rising
unemployment defined as negative growth for two quarters (six months)
Depression
Severe recession
Three Key FactsIrregular and Unpredictable
Variables fluctuate together
Output falls - Unemployment increases
VariablesGDP
Financial SystemInterest Rates
UnemploymentMonetary System
Trade Balance
Real - QuantitiesNominal - Money
Classical ViewReal qualities matter
Amount of money does not matter
New ViewReal qualities interact with
nominal money
Long Run and Short Run
Good in the short runBad in the long run
Bad in the short runGood in the long run
Lag
Time between cause and effect
PriceLevel
Quantity of Output
Equilibriumpricelevel
Equilibriumoutput
AD- AS Model
Aggregate Demand
AggregateSupply
PriceLevel
Quantity of Output
Why does the demand curve slope downward?
PriceLevel
Quantity of Output
Y1
Aggregate Demand
Y2
P1
P2
1. real wealth increases
2. interest rates fall
3. exchange rates depreciate
increase spending
increase investments
increase exports
Price LevelConsumption - Wealth Effect
Investment - Interest-Rate Effect
Net Exports - Exchange-Rate Effect
Wealth EffectLower prices
Buy more stuff
Increase output
Higher prices
Buy less stuff
Decrease output
Nominal - always one riyal - fixed
Real - what it will buy - varies
Lower prices
Need less money
More money to loan
Lower rates
Borrow easy
Buy more stuff
Increase output
Interest Rate EffectHigher prices
Need more money
Less money to loan
Higher rates
Borrow harder
Buy less stuff
Decrease output
Exchange-Rate EffectLower prices
Cause interest rates to decline
Causes currency to depreciate
Stimulates demand for local currency
Stimulates exports
Increases local output
Higher prices
Cause interest rates to increase
Causes currency to appreciate
Stimulates demand for foreign currency
Stimulates imports
Decreases local output
PriceLevel
Quantity of Output
Demand Shiftchange in consumptionchange in investmentgovernment purchasesnet exports
Quiz 11. Name three reasons why the Aggregate-Demand Curve slopes downward.
2. Name four reasons why the Aggregate-Demand Curve shifts
Wealth, Interest Rate, Exchange Rate
Consumption, Investment, Government, Net Exports (C + I + G + NX)
Aggregate Demand CurveSlopes Downward
Wealth Interest Rate
Exchange Rate
ShiftsConsumptionInvestment
GovernmentNet Exports
Aggregate Supply Curve
Two Curves
Short Run
Long Run
Two Supply Curves
Short RunLong Run
Short Run
Adrenaline
Give 110%
Push to exceed normal capacity
Long Run
Run out of Adrenaline
Fall back to normal
Cannot do 110% forever
unless.....
Long Run Supply Curve New Capital
Human
Physical
Intellectual
Financial
Cultural
PriceLevel
Quantity of Output
Two Supply Curves
Short-RunAggregateSupply
Long-RunAggregateSupply
Price changedoes not affect the quantity of goods and services
P
PriceLevel
Quantity of Output
P1
AD- AS Model
Aggregate Demand
Short RunAggregateSupply
Y1 Y2
P2
Long RunAggregateSupply
P3
New CapitalHumanPhysicalIntellectualFinancial Cultural
PriceLevel
Quantity of Output
Two Supply Curves
LRAS1
Y1
LRAS2
Y3
LRAS3
Y3
New CapitalHumanPhysicalIntellectualFinancial Cultural
PriceLevel
Quantity of Output
Two Supply Curves
LRAS1
Y1
LRAS2
Y3
LRAS3
Y3
P1
P2
P3
1. Name three reasons why the Short-Run Aggregate-Supply Curve slopes upward.
2. Name four reasons why the Short-Run Aggregate-Supply Curve shifts
Sticky Wage, Sticky Price, Misperceptions
Capital (5 things) Expected Price Level
Quiz 2
4 Step Analysis1. Decide what curve the event affects.
2. Decide direction of the shift
3. Diagram impact
4. Analyze short-run to long-run
Stagflation
A period of falling output and rising prices
Remember1. Three curves: AD, SRAS, LRAS
2. Event can affect one or more of the curves
3. Determine which curve and which direction.
4. Diagram impact
PriceLevel
Quantity of Output
AD- AS Model
Aggregate Demand
Short RunAggregateSupply
Long RunAggregateSupply
What if?1. New technological innovation?
2. Large increase in money supply?
3. People become worried about the future?
4. The supply of oil is suddenly reduced?
What Shifts Aggregate Demand?
1. Consumption - tax cut/increase, stock market increase/decrease
2. Investment - interest rate decrease/increase
3. Government Purchases - More or Less
4. Net Exports - tied to exchange rates
What Shifts Short Run Aggregate Supply?
1. Capital: Cultural, Physical, Financial, Human, Intellectual
2. Expectations: decrease-right, increase-left
Can you have a nominal change but not a real change?
Price level changes but output stays the same