AGGREGATE DEMAND AND AGGREGATE SUPPLY Flashcards
What is aggregate demand?
The total demand for goods and services in the economy. It’s usually equal to planned expenditure.
What is the equation for aggregate demand (Y)?
Y = C + I + G, where C is consumption expenditure, I is investment, and G is government consumption expenditure.
What does the aggregate demand curve show?
The relationship between short-run equilibrium output (Y) and the price level (P) or inflation
What type of relationship does the aggregate demand curve illustrate between price level and aggregate output?
A negative relationship. An increase in price level leads to a decrease in aggregate output, and vice versa.
Is the aggregate demand curve the sum of all market demand curves?
No, it is different from an ordinary demand curve
Why does the logic behind a simple demand curve fail to explain the negative slope of the AD curve?
Because when the general price level changes, every other price like wages, commodity prices, and interest rates will change.
How does monetary authority response affect the slope of the aggregate demand curve?
When inflation is high, the monetary authority raises the interest rate, which reduces consumption and investment spending, leading to a reduction in short-run equilibrium output. This contributes to the downward slope of the AD curve.
How does the effectiveness of money supply and demand on interest rates contribute to the slope of the aggregate demand curve?
A higher price level causes the demand for money to rise. With a constant money supply, the interest rate rises, causing aggregate output to fall. This results in a negative relationship between price level and aggregate output.
How does consumption expenditure relate to the aggregate demand curve’s slope?
An increase in the general price level increases the demand for money, leading to a rise in the interest rate. A rise in the interest rate causes a decrease in consumption and planned investment, which consequently leads to a decrease in output or income. This contributes to the downward slope of the AD curve.
How does the real wealth effect influence the aggregate demand curve?
An increase in the price level leads to a decrease in purchasing power and lowers the real value of some types of wealth such as stocks and housing, which leads to a decrease in consumption, which leads to a decrease in aggregate output. Thus, there is a negative relationship between the price level and output through this real balance effect.
How does uncertainty in the economy affect aggregate demand?
During periods of inflation and uncertain economic environments, both households and firms may become more cautious and reduce their spending, causing aggregate demand to fall
How do foreign prices of domestic goods affect the aggregate demand curve?
A rise in domestic inflation causes the prices of domestic goods in foreign markets to rise. As domestic goods become relatively more expensive to foreign purchasers, export sales decline, causing the AD curve to slope downward.
What are the Reasons for the downward sloping of the Aggregate Demand Curve
a. Monetary Authority Response
b. Effectiveness of Money Supply and Demand on Interest Rate
c. Consumption Expenditure
d. Analysis of Real Wealth Effect
e. The uncertainty in the Economy
f. Foreign Price of Domestic Goods:
The ———- demand represents the total demand for goods and services in an economy
aggregate
What is aggregate supply?
The total supply of goods and services in an economy. It can also be seen as the total supply of goods and services that firms plan to sell during a specific time period. It is the total amount of goods and services that firms are willing to sell at a given price level in an economy.
What does the aggregate supply (AS) curve show?
The relationship between the aggregate quantity of output supplied by all firms in an economy and the overall price level.
What type of relationship does the short-run aggregate supply curve usually show?
A positive relationship between aggregate supply and the overall price level. This means that an increase in price level will lead to an increase in aggregate supply and vice versa.
Is the aggregate supply curve the same as a market supply curve?
It is not the simple sum of all the individual supply curves in the economy.
Why is the aggregate supply curve not the same as a market supply curve?
Because most firms do not simply respond to prices determined in the market. Firms in imperfectly competitive industries make output and price decisions based on their perceptions of demand and costs
How can the aggregate supply curve be viewed?
As a “price-output response” curve. This is a curve that traces out the price and output decisions of all the markets and firms in the economy under a given set of circumstances.
What is generally opined about the slope of the AS curve?
: That it has a positive slope
What is the shape of the short-run AS curve at very low levels of aggregate output?
: It is fairly flat
What is the shape of the short-run AS curve at high levels of output?
It is vertical or nearly vertical
Why is the aggregate supply curve fairly flat at low levels of aggregate output?
Because firms are likely to be producing at levels of output which are below their existing capacity constraints. They are likely to be holding excess capital and labor. The extra cost of producing more output is likely to be small.
