Chapter 11: Aggregate Supply and Demand

Macro Determinants

internal market forces, external shocks, policy levers

Internal Market Forces

• population growth, spending behavior, invention and innovation

• focused on consumer behavior

• things that affect the economy from within

External Shocks

• wars, natural disasters, terrorist attacks, trade disruptions

• things that affect the economy from outside

Policy Levers

• tax policy, government spending, changes in interest rates, credit availability and money, trade policy, immigration policy, regulation

• things the government regulates/controls that affect the economy

Macro Outcomes

output, jobs, prices, growth, international balances

Output

the total volume of goods and services produced (real GDP)

Jobs

the levels of employment and unemployment

Prices

the average prices of goods and services

Growth

the year to year expansion in production capacity

International Balances

the international value of the dollar, trade and payment balances with other countries

Aggregate Demand (AD)

the total quantity of output demanded at alternative price levels in a given time period (overall demand kinda)

Reasons for AD Curve Having a Downward Slope

Real Balances Effect, Foreign Trade Effect, Interest-Rate Effect

Real Balances Effect

• the real value of money is measured by how many goods and services each dollar will buy

• as prices fall, money can purchase more goods and services

• when consumers’ real income increases because of drop in price level, consumers buy more goods and services

Foreign Trade Effect

• if domestic prices decline consumers demand more domestic output and fewer imports and vice versa

• Americans buy more of our own products

• Buyers outside the U.S. will also buy more American-made products

Interest Rate Effect

• at lower price levels, interest rates fall as consumers borrow less

• lower interest rates stimulate more borrowing and loan-financed purchases

Aggregate Supply

the total quantity of output producers are willing and able to supply at alternative price levels in a given time period

Reasons for AS Curve Having an Upward Slope

profit margins and costs

Profit Margins

• higher product prices tend to widen producers’ profit margins so producers will want to produce and sell more goods

• we expect the rate of output to increase when price level rises

Costs

• production costs tend to increase as producers try to produce more

• must acquire more resources and use existing plant and equipment more intensively

Macro Failure

undesirability, instability

Undesirability

price-output relationship at equilibrium may not satisfy macroeconomic goals

Undesirability Outcomes

full employment GDP, unemployment, inflation

Full Employment GDP

the rate of real GDP produced at full employment

Unemployment

the inability of labor force participants to find jobs

Inflation

an increase in the average price level of goods and services

Instability

macro disturbances can still displace an optimal macro equilibrium

Shift of Aggregate Demand

• leftward shift will result in lower price levels and less output

• rightward shift will result in higher price levels and higher output

Shift of AS Curve

• leftward shift will result in higher price levels and less output

• rightward shift will result in lower price levels and higher output