AD & AS Flashcards
define aggregate demand
the total output of an economy during a period of time at a given price level
components of aggregate demand
Consumption (C)
Investment (I)
Government spending (G)
Net exports (X–M)
determinants of aggregate demand components
Consumption (C):
* consumer confidence
* interest rates
* wealth
* income taxes
* level of household indebtedness
* expectations of future price level
Investment (I):
* interest rates
* business confidence
* technology
* business taxes
* level of corporate indebtedness
Government spending (G):
* political priorities
* economic priorities
Net exports (X–M):
* income of trading partners
* exchange rates
* trade policies
define aggregate supply
the total amount of goods and services provided in the economy at any given price level – shows the level of productive capacity of an economy
define short-run aggregate supply
essentially all of the microeconomic supply curves summed up
define long-run aggregate supply
the full employment level of output / potential GDP
determinants of short-run aggregate supply
- Costs of factors of production (the short-run is defined as the period of time where the FOP do not change)
- Indirect taxes / subsidies
what is the monetarist/new-classical view of aggregate supply
In the long run, the economy produces at the full employment level of output, indicating that in the long run the economy produces at potential GDP, which is independent of the price level.
Long-run equilibrium occurs when the SRAS and AD curves intersect on the LRAS curve at the level of full employment or potential output.
what is the Keynesian view of aggregate supply
3 stages
There are 3 stages:
Stage 1:
- real GDP is low
- prices don’t go down because wages are sticky, therefore firms don’t lower prices
- prices don’t go up because of spare capacity
- because wages/prices are sticky, economies can get stuck in stage 1 (producing below potential GDP)
Stage 2:
- real GDP increases come with price level increases
- resources are beginning to be depleted and bottlenecks are occuring (spare capacity diminishes)
- as the price of resources increase, firms must raise their prices (to respond to shifts of the AD curve)
Stage 3:
- the AS curve becomes vertical
- the economy does not posses the resources that allow for more growth
- any effort by firms to increase production (any rightward shifts of the AD) results only in the price level increasing
- inflation and no growth
what are inflationary gaps
when real GDP is greater than potential GDP (and unemployment is smaller than the natural rate of unemployment) due to excess AD
what are recessionary/deflationary gaps
when real GDP is less than potential GDP (and unemployment is greater than the natural rate of unemployment) due to insufficient AD
determinants of LRAS or Keynesian AS
- quantity and quality of FOP
- improvements in technology
- increases in efficiency
- institutional changes
- reductions in NRU
assumptions of the monetarist/new-classical model
- wage and price flexibility (in the long run)
- the economy has a built-in tendency rowards full employment equilibrium
- changes in AD only influence GDP in the short run, in the long run it results in changes in the price level
assumptions of the Keynesian model
- wage and price downward inflexibility
- the economy can get stuck in the short run
- economies have spare capacity
- markets don’t automatically return to full employment
can the economy remain in long-run disequilibrium?
keynesian vs new classical
Possible in the Keynesian model, not in the monetarist
