AP Macroeconomics: Aggregate Demand, Supply, and Fiscal Policy

Increase in expenditures or aggregate demand

Aggregate Demand (AD) shifts right → output and price level rise.

Decrease in expenditures or aggregate demand

AD shifts left → output and price level fall.

Cost-push inflation

Rising production costs (e.g., wages, oil prices) shift SRAS left, increasing prices and reducing output.

Increase in national income of trading partners

Increases U.S. exports → AD shifts right.

Stronger U.S. dollar

U.S. goods become more expensive → exports fall, imports rise → AD shifts left.

Weaker U.S. dollar

U.S. goods become cheaper → exports rise → AD shifts right.

Long-run aggregate supply (LRAS) curve

A vertical line at full-employment output (potential GDP).

Increase in aggregate supply

Lower input costs, deregulation, better technology, or increased productivity.

Regulations and aggregate supply

More regulation → higher production costs → SRAS shifts left; less regulation → SRAS shifts right.

AD-AS graph axes

x-axis = Real GDP (output); y-axis = Price Level.

Spending multiplier

How much total spending increases when there's an initial change in expenditures.

Formula for the spending multiplier

1 / (1 - MPC) or 1 / MPS.

Foreign purchases effect

When U.S. prices rise, exports fall and imports rise → AD decreases.

Fiscal policy for severe demand-pull inflation

Contractionary fiscal policy — decrease government spending or increase taxes.

Fiscal policy during a recession

Expansionary fiscal policy — increase government spending or decrease taxes.

Expansionary fiscal policy on a graph

AD shifts right, closing the recessionary gap.

Contractionary fiscal policy on a graph

AD shifts left, reducing inflation.

Intent of contractionary fiscal policy

To slow down inflation and stabilize an overheating economy.

Expenditure multiplier

To show how a change in spending causes a larger change in total output (GDP).

Automatic stabilizers

Built-in programs (like unemployment benefits or progressive taxes) that automatically adjust to stabilize the economy.

Advantage of automatic stabilizers

They act immediately without new legislation, reducing policy lag.

Cost-push inflation on a graph

SRAS curve shifts left → higher price level and lower output (stagflation).

Short-run aggregate supply (SRAS) curve

Upward sloping — as price level rises, producers supply more.

Tax multiplier formula

-MPC / (1 - MPC).

Equilibrium when AD shifts right

Higher price level and higher real GDP.

Equilibrium when AD shifts left

Lower price level and lower real GDP.