Chapter

Chapter 19
19
Aggregate Demand and Aggregate Supply
Principles of Economics
by Fred M Gottheil
PowerPoint Slides prepared by Ken Long

12/02/21
©1999 South-Western College Publishing
1
 What
What is
is the
the
Business
Business Cycle?
Cycle?
Alternating periods of
growth and decline in an
economy’s GDP

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2
Aggregate Output

Trough
Peak

The Business Cycle

Time
3
3
What
What are
are the
the four
four stages
stages
of
of the
the Business
Business Cycle?
Cycle?
• trough
• expansion
• peak
• recession
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4
Aggregate Output

Trough
Peak

The Business Cycle

Time
5
5
Aggregate Output The Business Cycle

Peak

Recession

Expansion

Trough

6
Time 6
 What
What is
is aa Recession?
Recession?
A phase in the business cycle
in which the decline in the
economy’s real GDP
persists for at least 6 months
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7
What
What is
is aa Depression?
Depression?
A severe recession

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8
 What
What is
is Prosperity?
Prosperity?
A phase in the business cycle
marked by a relatively high
level of real GDP, full
employment, and inflation
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9
 What
What is
is Inflation?
Inflation?
An increase in the price level

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10
How
How do
do we
we measure
measure
Economic
Economic Growth?
Growth?
Gross Domestic Product

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11
 What
What is
is
Gross
Gross Domestic
Domestic Product?
Product?
GDP is the total value of all
final goods and services
measured in current market
prices, produced in the
economy in any one year
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12
What
What is
is aa Final
Final Good?
Good?
A good that is not itself used
to produce other goods

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13
What
What does
does “measured
“measured
in
in current
current market
market
prices”
prices” mean?
mean?
The year in which the
good was made, the
current market price

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14
What
What does
does “produced
“produced in
in
the
the economy”
economy” mean?
mean?
It is produced domestically

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15
For
For the
the latest
latest measure
measure
of
of GDP
GDP visit
visit --
http://www.whitehouse.gov/
fsbr/esbr.html
http://www.bea.doc.gov

©1999 South-Western College Publishing

16
 How
How do
do we
we make
make
adjustments
adjustments for
for prices?
prices?
We measure both
Nominal and Real GDP

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17
 What
What is
is Nominal
Nominal GDP?
GDP?
GDP measured in terms of
current market prices - it is
not adjusted for inflation

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18
 What
What is
is Real
Real GDP?
GDP?
GDP adjusted for changes
in the price level

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19
What
What is
is aa Base
Base Year?
Year?
The reference year with
which prices in other
years are compared in a
price index
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20
What
What is
is the
the Price
Price Level?
Level?
A measure of prices in one
year expressed in relation
to prices in a base year

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21
 What
What is
is the
the Consumer
Consumer
Price
Price Index?
Index?
A measure comparing the
prices of consumer goods
and services that a household
typically purchases
compared to a base year
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22
What is the value of the
index in the base year?

100
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23
If nominal GDP is $750
billion and the price
index for that year is
1.11, then real GDP =
$750/1.11 (or) $675.68

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24
 What is the Consumer
Price Index (CPI)?
A measure over time of the
cost of a fixed ‘market
basket’ of consumer goods
and services
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25
 How does the GDP
index compare with the
CPI index?
GDP uses a different basket
of goods and services each
year whereas the CPI uses
a fixed basket determined
in the base year
©1999 South-Western College Publishing
26
 For
For the
the latest
latest measure
measure
of
of CPI
CPI visit
visit --
http://stats.bls.gov/cpihome.htm
http://woodrow.mpls.frb.fed.us/eco
nomy/calc/hist1913.html

©1999 South-Western College Publishing

27
 What
What isis the
the
GDP
GDP Price
Price Deflator?
Deflator?
A measure comparing the prices
of all goods and services
produced in the economy during
a given year to the prices of
those goods and services
purchased in a base year
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28
Re
al
GD
P = Nom
ina
GD l G
P D DP
efl x 1
ato 00
r
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29 9
For
For current
current and
and historical
historical
data
data on
on production
production --
http://www.bog.frb.fed.us/releases
http://www.census.gov

©1999 South-Western College Publishing

30
 What
What is
is
Aggregate
Aggregate Demand?
Demand?
The total quantity of goods
and services demanded by
households, firms,
foreigners, and government
at varying price levels
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31
Price
Level

AD
Real GDP
32
32
What
What factors
factors can
can explain
explain
the
the downward
downward slope
slope of
of
Aggregate
Aggregate Demand?
Demand?
• Real wealth effect
• Interest rate effect
• International trade effect
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33
 Real
Real Wealth
Wealth Effect
Effect
As the price level rises,
real purchasing power of
some assets declines,
thus may reduce
spending 34
 Interest
Interest Rate
Rate Effect
Effect
A rise in the price level
can raise interest rates,
leading to less
consumption and
investment spending 35
 International
International Trade
Trade
Effect
Effect
A rise in domestic prices
relative to foreign prices
will reduce exports, raise
imports
36
What
What factors
factors can
can cause
cause aa
shift
shift in
in Aggregate
Aggregate
Demand?
Demand? A A change
change in
in ...
...
• government spending
• taxes
• income abroad
• expectations
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37
 What
What is
is
Aggregate
Aggregate Supply?
Supply?
The total quantity of goods
and services that firms
are willing to supply at
varying price levels
©1999 South-Western College Publishing
38
What
What is
is the
the Shape
Shape of
of the
the
AS
AS curve?
curve?
Very controversial,
different ways of viewing
AS curve

39
One
One type
type of
of AS
AS curve,
curve, 33
sections
sections to
to itit
Horizontal section
Upward sloping section
Vertical section

40
 Aggregate Supply Curve
Price
level AS

Real GDP 41
41
 Why
Why isis Aggregate
Aggregate
Supply
Supply perfectly
perfectly vertical
vertical
at
at higher
higher levels
levels of
of GDP?
GDP?
Because all resources are
fully employed beyond
some level of GDP
©1999 South-Western College Publishing
42
 Why
Why isis the
the Aggregate
Aggregate
Supply
Supply Curve
Curve horizontal
horizontal
at
at low
low levels
levels of
of GDP?
GDP?
Because so many
resources are not used
or are under utilized
©1999 South-Western College Publishing
43
 Why
Why is
is the
the AS
AS Curve
Curve
upward
upward sloping
sloping at
at higher
higher
levels
levels ofof GDP?
GDP?
Because we have run out of
some resources so an
increase in demand causes
those prices to increase
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44
 Aggregate Supply Curve
Price
level AS

Real GDP 45
45
 What
What is
is
Macroequilibrium?
Macroequilibrium?
The level of real GDP and
the price level that equate
the aggregate quantity
demanded and the
aggregate quantity supplied
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46
 Shifts in the AD Curve
Price
level AS

P2
AD2
P1

Real
AD1 GDP
47
Q1 Q2 47
 Will any increase in
demand cause inflation?
No! It depends on where
the aggregate demand
curve falls on the
aggregate supply curve
©1999 South-Western College Publishing
48
 Aggregate Supply Curve
Price
level
AS

AD4

AD3

AD2
AD1

Real GDP 49
49
 Shifts in the AS Curve
Price
level
AS2 AS1

P2

P1

Real
AD1 GDP
50
Q2 Q1 50
What
What factors
factors can
can cause
cause aa
shift
shift in
in Aggregate
Aggregate
Supply?
Supply? A A change
change in
in ...
...
• resource availability
• wages
• interest rates
• rents
©1999 South-Western College Publishing
51
What
What is
is an
an example
example of
of
AD
AD moving
moving along
along aa
horizontal
horizontal AS
AS Curve?
Curve?
Roosevelt’s New Deal
programs in the 1930’s
and war related
spending after 1939
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52
What
What is
is an
an example
example of
of
AD
AD moving
moving along
along aa
positive
positive AS
AS Curve?
Curve?
Spending on the Viet Nam
War in the 1960’s

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53
 What
What isis
Demand
Demand Pull
Pull Inflation?
Inflation?
Inflation caused primarily
by an increase in
aggregate demand

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54
What
What is
is an
an example
example of
of
aa decrease
decrease in
in
Aggregate
Aggregate Supply?
Supply?
The OPEC legacy
of the 1970’s

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55
 What
What is
is
Cost-Push
Cost-Push Inflation?
Inflation?
Inflation cause primarily
by a decrease in
aggregate supply

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56
 What
What other
other problem
problem can
can
Cost-Push
Cost-Push Inflation
Inflation cause?
cause?
Unemployment

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57
What
What is
is Stagflation?
Stagflation?
A period of stagnating
real GDP, inflation, and
relatively high levels of
unemployment

©1999 South-Western College Publishing

58
 For
For current
current wealth
wealth and
and
income
income data
data --
http://www.whitehouse.gov/fsbr/
income.html
http://www.bea.doc.gov

©1999 South-Western College Publishing

59
• What is a Recession?
• What is a Depression?
• What are the four stages of the
Business Cycle?
• What is Gross Domestic Product?
• What is Nominal GDP?
• What is Real GDP?

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•What is the Consumer Price Index?
•What is the GDP Price Deflator?
•What is Aggregate Demand?
•What is Aggregate Supply?
•What is Macroequilibrium?
•What is Stagflation?

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