AP Macroeconomics Unit 3 – National Income and Price Determination: Ultimate Study Notes

Aggregate Demand and Aggregate Supply

Aggregate Demand (AD)

  • Definition: Total quantity of goods and services demanded across all levels of the economy at different price levels.

  • AD Curve: Downward sloping – as price level falls, quantity demanded rises.

Components of AD (C + I + G + NX)

  • C – Consumption

  • I – Investment

  • G – Government spending

  • NX – Net exports (Exports − Imports)

Shifters of AD

  • Changes in C, I, G, or NX not caused by price level.

  • Examples:

    • Consumer confidence ↑ → AD ↑

    • Taxes ↓ → AD ↑

    • Government spending ↑ → AD ↑

AP Tip

  • Remember: Price level movement = along the curve; other factors = shift of the curve.

Memory Trick

  • CIGX → Consumers Invest, Government eXports (same as GDP components)

Aggregate Supply (AS)

  • Short-Run AS (SRAS): Upward sloping; prices of inputs sticky in short run

  • Long-Run AS (LRAS): Vertical at full employment GDP; determined by resources & technology

Shifters of SRAS

  • Input prices ↑ → SRAS ↓

  • Productivity ↑ → SRAS ↑

  • Business taxes ↑ → SRAS ↓

Shifters of LRAS

  • Increase in resources, technology, or productivity → LRAS shifts right

AP Tip

  • SRAS curve: short-term price changes matter

  • LRAS curve: economy’s potential output, unaffected by price level

Memory Trick

  • S-R-A-S = Short-Run Affects Supply (prices matter)

  • L-R-A-S = Long-Run Always Steady (vertical)

Macroeconomic Equilibrium

Equilibrium Price Level and Output

  • Occurs at intersection of AD and SRAS

  • Determines real GDP and price level in the short run

Recessionary Gap

  • Equilibrium GDP < full employment GDP

  • High unemployment, low inflation

Inflationary Gap

  • Equilibrium GDP > full employment GDP

  • Low unemployment, rising inflation

AP Tip

  • FRQs may ask to identify gap type based on unemployment and output

Fiscal Policy

Definition

  • Government adjusts spending and taxes to influence economy

Tools

  • Expansionary Fiscal Policy:

    • ↑ Government spending or ↓ Taxes → AD ↑ → combat recession

  • Contractionary Fiscal Policy:

    • ↓ Government spending or ↑ Taxes → AD ↓ → combat inflation

AP Tip

  • Expansionary = “fight recession,” contractionary = “fight inflation”

  • Always link to AD shifts in diagrams

Memory Trick

  • E = Expansion, R = Recession, C = Contraction, I = Inflation → E fights R, C fights I

Multiplier Effect

Definition

  • Initial change in spending leads to larger overall change in GDP

Formula

Multiplier = 1 ÷ (1 − MPC) or 1 ÷ MPS

AP Tip

  • MPC (Marginal Propensity to Consume): fraction of income spent

  • MPS (Marginal Propensity to Save): fraction of income saved

Memory Trick

  • Multiplier = Bigger Bang for the Buck → small spending → bigger GDP impact

Investment and Interest Rates

Investment Demand

  • Investment is inversely related to interest rates

  • Lower interest rates → more investment → AD ↑

AP Tip

  • FRQs often connect interest rates to AD shifts via investment

Memory Trick

  • Interest ↓ → Investment ↑ → AD ↑ (“cheap money fuels growth”)

Key Terms to Remember

  • Aggregate Demand (AD) & Supply (SRAS & LRAS)

  • AD components: C + I + G + NX

  • Macroeconomic equilibrium, recessionary & inflationary gaps

  • Fiscal Policy: Expansionary vs Contractionary

  • Multiplier, MPC, MPS

  • Investment & interest rate relationship

Memory Trick

  • A-G-F-M-I → AD/AS, Gaps, Fiscal policy, Multiplier, Investment