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Unit 3 Notes

Aggregate Demand (AD) represents the total goods and services that buyers are willing to purchase at various price levels, with an inverse relationship between price level and real GDP. The AD curve is downward sloping due to the Wealth Effect, Interest Rate Effect, and Foreign Trade Effect, and can shift due to changes in consumer spending, investment, government spending, and net exports. Aggregate Supply (AS) reflects the total output firms are willing to produce at different price levels, with short-run and long-run variations influenced by resource prices, government actions, and productivity changes.

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16 views3 pages

Unit 3 Notes

Aggregate Demand (AD) represents the total goods and services that buyers are willing to purchase at various price levels, with an inverse relationship between price level and real GDP. The AD curve is downward sloping due to the Wealth Effect, Interest Rate Effect, and Foreign Trade Effect, and can shift due to changes in consumer spending, investment, government spending, and net exports. Aggregate Supply (AS) reflects the total output firms are willing to produce at different price levels, with short-run and long-run variations influenced by resource prices, government actions, and productivity changes.

Uploaded by

Savera Karia
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Aggregate Demand (AD)

Aggregate Demand: all the goods and services (real GDP) that buyers are willing and able to
purchase at different price levels
●​ There is an inverse relationship between price level and real GDP
○​ If the price level increases (inflation), real GDP demanded falls
○​ If the price level decreases (deflation), real GDP demanded rises

Aggregate Demand Curve


●​ “Price level” on y-axis
●​ “Real domestic output (GDPR)” on x-axis
●​ AD = C + I + G + XN
○​ AD is just GDP

Why is AD downward sloping?


1.​ The Wealth Effect
a.​ Higher price levels reduce purchasing power of money, which decreases
expenditure quantity
b.​ Lower price levels increase purchasing power, which increases expenditures
c.​ Called “Real Balance Effect”
2.​ Interest Rate Effect
a.​ When price level increases, lenders charge higher interest rates to get REAL
return on their loans
b.​ Higher interest rates discourage consumer spending and business investment
3.​ Foreign Trade Effect
a.​ When U.S. price levels rise, foreign buyers purchase fewer American goods, and
Americans buy more foreign goods
b.​ Exports fall and imports rise, causing real GDP demanded to fall

Shifts in Aggregate Demand


1.​ Change in Consumer Spending
a.​ Increase in disposable income (higher incomes)
b.​ Consumer expectations (fear of a recession)
c.​ Household indebtedness (more consumer debt)
d.​ Taxes (decrease in income taxes)
2.​ Change in Investment Spending
a.​ Real interest rates (price of borrowing money)
b.​ Future business expectations (high expectations)
c.​ Productivity and technology (new robots)
d.​ Business taxes (higher corporate taxes)
3.​ Change in Government Spending
a.​ Government expenditures (decrease in defense spending, increase in public
works)
4.​ Change in Net Exports
a.​ Exchange rates (if the U.S. dollar depreciates relative to the euro)
b.​ National income compared to abroad (if a major importer has a recession, if the
U.S. has a recession)

The Multiplier Effect

Multiplier Effect: tool to show the ripple effect of initial change in spending

MPC/APC
●​ Spend or consume
MPS/APS
●​ Save

EX: $100 spend $80


MPC = 0.8
MPS = 0.2

Spending Multiplier
Spending = 1/MPS = 1/0.2 = 5
$100 x 5 = $500

Tax Multiplier
●​ MPC/MPS
○​ Can also calculate Spending - 1

Aggregate Supply

Aggregate Supply: amount of goods and services (real GDP) that firms will produce in an
economy at different price levels
●​ The supply for everything by all firms
●​ Has two different curves

Short-Run Aggregate Supply (SRAS)


●​ Wages and resource prices are sticky and WILL NOT change as price levels change
○​ When PL goes up, businesses have an incentive to produce more in the short run
Long-Run Aggregate Supply (LRAS)
●​ Wages and resource prices are flexible and WILL change as price levels change
○​ Shifts of the LRAS are the same as PPC shifters
■​ Investment → change in resource quantity/quality, change in technology

Shifters of Aggregate Supply (R.A.P)


1.​ Change in Resource Prices
a.​ Prices of domestic/imported resources
b.​ Supply shocks
i.​ If consumers/producers expect higher prices in the future, workers will
demand higher wages and costs will increase
2.​ Change in Actions of the Government (NOT Government Spending)
a.​ Taxes on producers
b.​ Subsidies for domestic producers
c.​ Government regulations
3.​ Change in Productivity
a.​ Technology

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