TUTORIAL 11

GT11103 Economics
Semester 2, 2023/2024
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Topic: Aggregate Supply and Aggregate Demand

Answer:

1. Explain the short-run and long-run aggregate supply curves and draw a graph to show the
differences between them. (refer to the lecture slides)

2. (a)110; $11 trillion

(b) recessionary gap
(c) $1 trillion

3. U.S. net exports increase due to the rise of the demand. The price level increases and real
GDP increases too.

Use Figure 10.4 to work Problems 6 to 7.

Initially, the short-run aggregate supply curve is SAS0 and the aggregate demand curve is AD0.

6. Some events change aggregate demand from AD0 to AD1. Referring to the graph, aggregate
demand shifts rightward (increases).
(a) Describe two events that could have created this change (increase in this case) in
aggregate demand.
(b) What is the equilibrium after aggregate demand changes?
(c) If the potential GDP is $1 trillion, the economy is at what type of macroeconomic
equilibrium?

(a) Aggregate demand increases when the

aggregate demand curve shifts from AD0 to AD1.
Aggregate demand increases
when expected future income, expected future
inflation, or expected future profit increases; or if
the government cuts taxes, increases its
expenditure on goods and services, or increases
its transfer payments;
if the Fed lowers the interest rate; or
if the U.S. exchange rate falls or foreign income
increases.

(b) After the change in aggregate demand,

equilibrium is at point C: real GDP is $1.1 trillion

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 and the price level is 105. The economy is at an above full-employment equilibrium with an
inflationary gap.
(c) Inflationary gap occurs when real GDP exceeds potential GDP.
Inflationary gap = 1.1tri -1.0tri = 0.1 trillion dollars.

7. Some events change aggregate supply from SAS0 to SAS1. Describe two events that could
have created this change in aggregate supply. What is the equilibrium after aggregate
supply changed? If potential GDP is $1 trillion, does the economy have an inflationary gap,
a recessionary gap, or no output gap?

Aggregate supply decreases when the aggregate supply curve shifts from SAS0 to SAS1.
Aggregate supply decreases if potential GDP decreases; if the money wage rate rises; or if
the money prices of other resources rise, the cost of firm rise, thus SAS shirt leftward (from
SAS0 to SAS1). After the change, equilibrium is at point A: real GDP is $0.9 trillion and the
price level is 105. The economy is at a below full-employment equilibrium with a
recessionary gap. Recessionary gap occurred when real GDP is less than potential GDP.
Recessionary gap = 1.0tri – 0.9tri = 0.1 trillion dollars.

Part B: Multiple-choice Questions

1) When the labor market is at full employment

A) real GDP equals potential GDP.
B) the price level is stable.
C) the price level equals the potential price level.
D) the short run aggregate supply curve is horizontal.
Answer: A

2) When an increase in aggregate demand exceeds the increase in aggregate supply

A) real GDP decreases while nominal GDP increases.
B) the price level falls while real GDP increases.
C) nominal GDP decreases and real GDP decreases.
D) the economy will experience inflation as the price level rises.
Answer: D

3) An inflationary gap occurs when

A) real GDP is more than potential GDP.
B) nominal GDP is less than potential GDP.
C) high rates of inflation occur.
D) nominal GDP is greater than potential GDP.
Answer: A

4) When the economy is at an above-full-employment equilibrium,

A) nominal GDP exceeds real GDP.
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B) an inflationary gap exists.
C) a recessionary gap exists.
D) real GDP is less than potential GDP.
Answer: B