3.2. Aggregate Demand and Aggregate Supply

Aggregate Demand

Total spending on all goods and services across all sectors of an economy (C+I+G+(X-M)).

Consumption

Spending by domestic households on goods and services.

Investment

Spending by firms on capital stock.

Government Spending

Spending by the government on public goods and services.

Exports

Spending by foreign households on domestic goods and services.

Imports

Spending by domestic households on foreign goods and services.

Aggregate Supply

Total production of goods and services across all sectors of an economy.

Short-Run (Macro)

Time period in which the costs of production (e.g. wages) are fixed.

Shifts in SRAS are caused by changes in...

...the costs of production.

Long-Run (Macro)

Time period in which the costs of production (e.g. wages) are flexible.

Shifts in LRAS (or Keynesian AS) are caused by changes in...

...the quality or quantity of the factors of production.

Inflationary Gap

When actual output is greater than potential output, leading to inflationary pressure.

Deflationary Gap

When actual output is below potential output.

In the New Classical Model, when there is an inflationary gap, what happens next?

Wages increase and the economy returns to Yf.

In the New Classical Model, when there is a deflationary gap, what happens next?

Wages decrease and the economy returns to Yf.

In the Keynesian Model, when there is a deflationary gap, what happens?

Wages cannot decrease, so the economy remains below Yf.

Business Cycle

Shows short-term periodic fluctuations in real GDP over time.

Recession

Two or more consecutive quarters of negative economic growth