The Aggregate Demand Curve---> The Aggregate Supply Curve

Why does quantity demanded increase as price falls?

A lower price means the good has become less expensive relative to other goods

Why does quantity demanded increasing as price falls no longer make sense in the aggregate economy?

A decline in price level means prices of all good and services have declined

What is the relationship between aggregate demand and aggregate price?

Negative

What are the 3 reasons for the negative relationship between aggregate demand and aggregate price level?

Wealth Effects, Interest Rate Effects, and Foreign Exchange Effects

What is the wealth effect?

When aggregate price level declines the money people have in their wallets and banks allows them to purchase a greater quantity of goods and services

What is the effect of lower prices?

Increase wealth and encourage higher levels of spending

What equation does the wealth effect follow?

M x V = P x Y

If the velocity of money doesnt change and the quantity of money is constant what does a lower price level lead to?

A higher level of real GDP

What is the Interest Rate Effect?

At a lower price level people find that they are holding more money than they want to have

What happens when people hold more money than they view optimal?

They attempt to reduce monetary assets

How do people reduce monitary assets?

By using their money to acquire less liquid assets

What are forms of less liquid assets?

Bank certificates of deposit, stocks, and bonds

The actions of reducing monetary assets will have what effect?

Increased supply of savings

What is the effect of increased supply of savings?

Interest rates fall and households encouraged to borrow more funds and increase spending

What is the Foreign Exchange Effect?

Domestically produced goods being less expensive related to foreign produced goods causing domestic consumers to purchase fewer imported goods and services

What will foreign consumers do as a result of lower domestic price levels relative to foreign produced goods?

Purchase more domestically produced goods and services

The foreign consumers purchase of domestically produced goods and services has what effect?

Net exports increased

What will cause aggregate demand curve to shift?

Anything that influences consumption decision or foreign residents, or leads firms to increase investment.

The introduction of a promising new technology will cause what?

Forms to increase investment spending

An increase in investment spending has what effect?

Increased aggregate demand at every price

An increased aggregate demand at every price will cause the AD curve to shift where?

To the right

What effect does a drop in stock prices have?

Reduced wealth and consumer spending at each price level

A drop in stock prices would have what effect on the AD curve?

Leftward shift

How can governments affect the AD curve?

Through government spending or taxes

What will an increase in spending by the federal government do?

Increase spending at every price level

How does an increase in government spending affect the AD curve?

It will shift it right

What happens when state governments reduce spending by furloughing employees?

It reduces spending shifting AD curve to the left

A reduction in taxes will have what effect on the AD curve?

Rightward shift

Why does the reduction in taxes shift the AD curve right?

It increases households disposable income and therefore consumption spending

Why is the effect of a tax change difficult to predict?

Consumers dont always spend extra money

What might some do with extra money that will not have an effect on the AD curve?

Save it or use it to pay of debt

Which way does the aggregate supply curve slope?

Upwards

Why was the supply curve upward sloping in non aggregate?

Higher prices are necessary to attract resources from producing other product

Why does the reason for the upward shift of the supply curve not make sense in aggregate?

Resources cannot be shifted from other less profitable activities

Rather than immediately adjusting prices in response to variations in demand what do firms do?

Fix prices for some period of time and sell as much or little as consumers wish to purchase

What to firms adjust their prices in response to?

The gap between actual and anticipated prices

Why does the aggregate supply curve slope upwards?

To reflect the relationship between price adjustment processes and size of unanticipated sales

What does the position of the aggregate supply curve depend on?

The economies long run potential output and what people expect the aggregate price level to be

Where will short run supply curve pass through?

The verticle line at Y*

The price level in which the short run aggregate supply curve will pass through is equal to what?

The prevailing expectation about aggregate prices

When will resources be fully employed and aggregate price equals its long run potential output?

When aggregate price level is equal to the level that firms and consumers anticipated

What is the most common cause of shifts in the position of the aggregate supply curve?

Changes in the expected price level

What is AS^SR equal to?

Y*

When was AS^SR equal to Y*?

At the expected aggregate price level

Because AS^SR is equal to Y* at the expected aggregate price level what will and increase in expected price cause?

Aggregate supply to shift leftward

A decrease in expected price level will cause aggregate supply to shift where?

Rightward

What factors will increase short run aggregate supply curve?

Input prices, tax policy, government regulations, new technologies, and changes to productivity

What is a major cause of shifts in aggregate supply curve?

Aggregate supply shocks

What is an example of an aggregate supply shock?

Weather and climate conditions that affect agricultural production may shift the aggregate supply curve

When did the OPEC oil embargo begin?

1973

What was the OPEC oil embargo an example of?

Aggregate supply shocks

What was the result on the quantities supplied of oil in the U.S. as a result of OPEC’s embargo?

A reduction in quantities supplied at every price

What happened to the short run aggregate supply curve as a result of the reduction in quantity supplied at every price?

The short run aggregate supply curve shifted left

What effect will technological processes have on the economy over time?

Potential output shifts to the right

The shift of potential output to the right over time due to technology accounts for what?

Long run growth of real GDP