1. Chapter 08 Aggregate Demand and Aggregate Supply

2. Chapter Outline Aggregate Demand Aggregate Supply
Shifts in Aggregate Demand and Aggregate Supply
Causes of Inflation
Supply-Side Economics
How the Government Can Influence (but probably not control) the Economy

3. Aggregate Demand
Aggregate Demand: the amounts of real domestic output which domestic consumers, businesses, governments, and foreign buyers collectively will desire to purchase at each possible price level

4. Figure 1 Aggregate Demand
RGDP PI AD

5. Why Aggregate Demand is Downward Sloping
Real Balances Effect
Because higher prices reduce real spending power, prices and output are negatively related.
Foreign Purchases Effect
When domestic prices are high, we will export less to foreign buyers and we will import more from foreign producers. Therefore higher prices leads to less domestic output.
Interest Rate Effect
higher prices lead to inflation which leads to less borrowing and a lowering of RGDP

6. Aggregate Supply
Aggregate Supply: the level of real domestic output available at each possible price level

7. Figure 2 The Aggregate Supply CurveAS
RGDP PI
Classical Range
Intermediate Range
Keynesian Range

8. The Ranges of AS Keynesian Range Classical Range Intermediate Range
Large amounts of unemployment make it so that increases in aggregate demand have no affect on wages or prices.
Classical Range
Full employment makes it so that increases in aggregate demand only increase wages or prices.
Intermediate Range
Some sectors of the economy reach full employment more quickly than others.

9. Variables that Shift Aggregate Demand
Taxes
Interest Rates
Confidence
Strength of the Dollar
Government Spending

10. Determinants of AD Variable GDP Component C,I,G,X
Effect of an increase on AD
Effect of a decrease on AD
Taxes
C,I
Decrease so
AD <=
Increase so
AD =>
Interest Rates
Confidence
Strength of the Dollar
X (exports-imports)
Government Spending G

11. Figure 3 AD Increases AS AD
RGDP PI
AD’
PI’
RGDP’
PI*
RGDP*

12. Figure 4 AD Decreases AS AD
RGDP PI
AD’
PI*
RGDP*
PI’
RGDP’

13. Variables that Shift AS
Input Prices
Productivity
Government Regulation

14. Determinants of AS Variable Input Prices Decrease so AS Increase so
Effect of an Increase on AS
Effect of an Decrease on AS
Input Prices
Decrease so AS
Increase so
Productivity
Government Regulation

15. Figure 5 Increase in AS AS AD
RGDP PI
AS’
PI*
RGDP*
PI’
RGDP’

16. Figure 6 Decrease in AS
RGDP AS AD PI
AS’
PI’
RGDP’
PI*
RGDP*

17. Causes of Inflation
Demand Pull Inflation: inflation caused by an increase in aggregate demand
Cost Push Inflation: inflation caused by a decrease in aggregate supply

18. Government Influence: Aggregate Demand
Government can influence economic activity with aggregate demand side policies affecting:
Taxes
Government Spending
Interest Rates

19. Government Influence: Aggregate Supply
Government can influence economic activity with aggregate supply side policies affecting
input costs (labor and wage)
reducing regulation
Increase incentives to
Work
Take Risks
The actions are call Supply Side Economics