8 Aggregate Demand and Supply Analysis (AS–AD / Ch.10)

These flashcards cover key concepts, mechanisms, and equations related to Aggregate Demand and Supply Analysis, focusing on the interactions and outcomes resulting from shifts in economic factors.

What causes the AD curve to slope downward?

Higher price levels reduce real money balances (M/P), lowering spending and output.

What happens when velocity falls?

Money demand rises, causing AD to shift left, resulting in a fall in output in the short run and a fall in price in the long run.

Write the quantity equation in percent-change form.

%ΔMS + %ΔV = %ΔP + %ΔY.

What happens in the short run if money supply decreases by 5% and velocity remains constant?

Price remains fixed while output falls by 5%.

What happens in the long run if money supply decreases by 5% and velocity remains constant?

Output remains fixed and price falls by 5%.

What is fixed in AS–AD in the short run?

Price level (P).

What is fixed in AS–AD in the long run?

Output at full employment (YFE).

Why are demand shocks easier for the Bank of Canada to handle than supply shocks?

Demand shocks can be fully offset by monetary policy; supply shocks create unavoidable trade-offs.

Can the Bank of Canada stabilize both output and prices after an adverse supply shock?

No, stabilizing one worsens the other.

Does a supply shock shift AD?

No, it shifts SRAS.

What is a key characteristic of short run adjustments?

Prices are sticky; output can vary from YFE.

What is a key characteristic of long run adjustments?

Prices are flexible; output returns to YFE.

What is stagflation?

It is a situation of falling output and rising prices, typically resulting from adverse supply shocks.

What occurs when the Bank of Canada increases money supply in response to a supply shock?

AD shifts right, restoring output, but the price level becomes permanently higher.

What is the implication of a fixed price in the short run?

Output will adjust to absorb shocks in the economy.

How do demand shocks affect monetary policy?

Monetary policy can be used to fully offset demand shocks.

What must the Bank of Canada choose when facing adverse supply shocks?

To either stabilize output at YFE or stabilize prices.

What is the relationship between real money demand and output?

Real money demand (M/P) is positively related to output (Y).

How does monetary policy affect aggregate demand?

By changing the money supply, monetary policy can shift aggregate demand.

What is the main idea behind the IS–LM model in relation to AD shifts?

Changes in money supply lead to shifts in the LM curve, impacting equilibrium output.

In aggregate supply and demand analysis, what is a critical risk in answering exam questions?

Forgetting to identify which curve shifts and what is fixed.

What is the difference between a movement along AD and a shift of AD?

A movement along AD is caused by a change in the price level; a shift of AD is caused by changes in money supply or velocity.

What happens in the short run after an adverse supply shock?

SRAS shifts upward, causing lower output and higher prices.

In the quantity equation, what is fixed in the short run and long run?

Short run: %ΔP = 0. Long run: %ΔY = 0.

What is the long-run outcome of a demand shock?

Output returns to full employment (YFE) and the price level adjusts.