Chapter 10

Aggregate Demand and

Aggregate Supply
 Aggregate Demand
 Aggregate Demand curve is a schedule or curve
that shows the amounts of Real output (real GDP)
that buyers collectively desire to purchase at
each possible price level.

 The relationship between the price level and the

amount of real GDP demanded is inverse or
negative.

 When the price level rises, the quantity of real

GDP demanded decreases and vice versa.
 Aggregate Demand Curve
 Real Balances Effect

 Interest Rate Effect

 Foreign purchases Effect

 Changes in Aggregate Demand
 Consumer spending
1. Consumer Wealth
2. Consumer expectations
3. Household Debt
4. Personal Taxes

 Investment spending
1. Real interest rates
2. Expected returns :
a) expectations about future business conditions
b) Technology
c) Degree of excess capacity
d) Business taxes
 Government spending

 Next export Spending

1. National Income abroad
2. Exchange rates
 Aggregate Supply
 Aggregate supply is a schedule or curve showing
the level of real domestic output that firms will
produce at each price level

 The production responses of firms to changes in

the price level differ in the long run and short run

 Long and short run AS vary by degree of wage

adjustment, not by a set length of time such as 1
month, 1 year and 3 years
 Aggregate Supply curve
 Long Run

 Short run
 Changes in Aggregate Supply
 Changes in Input prices
1. Domestic resource prices
2. Prices of imported resources
3. Market power

 Productivity

 Changes in legal Environment

1. Business taxes and subsidies
2. Government regulations
Equilibrium and changes in
Equilibrium
 Increase in AD: Demand Pull Inflation

 Increase in Aggregate Demand pulls up prices

 Price rise leads to inflation

 Decrease in AD: Recession and
Cyclical Unemployment
 Deflation – a decline in the price level- is a
rarity.

 Decrease in demand leads to decrease in output

and eventually unemployment

 Reasons for inflexibility of prices in a downward

direction:

1. Fear of price wars

2. Menu costs
3. Wage contracts
4. Morale, effort and productivity
Decrease in AS: Cost-Push
Inflation
Increase in AS: Full employment
with Price-Level Stability