Aggregat Demand

Team Teaching
Dept. Islamic Economics
Faculty of Economics and
Business
Airlangga University
In this session, you will learn…
• how to derive the aggregate demand curve from the
IS-LM model
 Equilibrium in the IS -LM model
The IS curve represents r
equilibrium in the goods LM
market.
Y  C (Y  T )  I (r )  G
r1
The LM curve represents money
market equilibrium.
M P  L (r ,Y ) IS
Y
Y1
The intersection determines
the unique combination of Y and r
that satisfies equilibrium in both markets.
 IS-LM and aggregate demand
• So far, we’ve been using the IS-LM model to analyze the
short run, when the price level is assumed fixed.
• However, a change in P would
shift LM and therefore affect Y.
• The aggregate demand curve
captures this relationship between P and Y.
 Deriving the AD curve
r LM(P2)
Intuition for slope LM(P1)
r2
of AD curve:
r1
P  (M/P )
IS
 LM shifts left Y2 Y1 Y
P
 r
P2
 I
P1
 Y AD
Y2 Y1 Y
 Monetary policy and the AD curve
r LM(M1/P1)
The Fed can increase LM(M2/P1)
aggregate demand: r1
r2
M  LM shifts right
IS
 r Y1 Y2 Y
P
 I
 Y at each P1
value of P
AD2
AD1
Y1 Y2 Y
 Fiscal policy and the AD curve
r LM
Expansionary fiscal policy
(G and/or T ) increases r2
agg. demand: r1 IS2
T  C IS1
Y1 Y2 Y
 IS shifts right P
 Y at each
P1
value of P
AD2
AD1
Y1 Y2 Y
 IS-LM and AD-AS
in the short run & long run
The force that moves the economy from the short run
to the long run
is the gradual adjustment of prices.

In the short-run then over time, the

equilibrium, if price level will
Y Y rise
Y Y fall

Y Y remain constant
 The SR and LR effects of an IS shock
r LRAS LM(P1)
A
A negative
negative IS
IS shock
shock
shifts
shifts IS
IS and
and AD
AD left,
left,
causing
causing YY to
to fall.
fall. IS1
IS2
Y Y
P LRAS
P1 SRAS1

AD1
AD2
Y Y
The SR and LR effects of an IS shock
r LRAS LM(P1)

In
In the
the new
new short-run
short-run
equilibrium, Y  Y
equilibrium, IS1
IS2
Y Y
P LRAS
P1 SRAS1

AD1
AD2
Y Y
 The SR and LR effects of an IS shock
r LRAS LM(P1)

In
In the
the new
new short-run
short-run
equilibrium, Y  Y
equilibrium, IS1
IS2
Y Y
Over
Over time,
time, PP gradually
gradually
falls,
falls, which
which causes
causes P LRAS

•• SRAS
SRAS toto move
move down.
down. P1 SRAS1

•• M/P
M/P to
to increase,
increase, which
which
causes
causes LM
LM AD1
to AD2
to move
move down.
down.
Y Y
 The SR and LR effects of an IS shock
r LRAS LM(P1)
LM(P2)

IS1
IS2
Y Y
Over
Over time,
time, PP gradually
gradually
falls,
falls, which
which causes
causes P LRAS

•• SRAS
SRAS toto move
move down.
down. P1 SRAS1

•• M/P
M/P to
to increase,
increase, which
which P2 SRAS2
causes
causes LM
LM AD1
to AD2
to move
move down.
down.
Y Y
 EXERCISE:
Analyze SR & LR effects of M
a. Draw the IS-LM and AD-AS r LRAS LM(M1/P1)
diagrams as shown here.
b. Suppose Fed increases M.
Show the short-run effects on
your graphs. IS
c. Show what happens in the
Y Y
transition from the short run to
the long run. P LRAS

P1 SRAS1

AD1

Y Y
 The Great Depression
240 30
Unemployment
220 (right scale) 25
billions of 1958 dollars

percent of labor force

200 20

180 15

160 10

140 Real GNP 5

(left scale)
120 0
1929 1931 1933 1935 1937 1939
THE SPENDING HYPOTHESIS:
Shocks to the IS curve
• asserts that the Depression was largely due to an
exogenous fall in the demand for goods & services – a
leftward shift of the IS curve.
• evidence:
output and interest rates both fell, which is what a
leftward IS shift would cause.
 THE SPENDING HYPOTHESIS:
Reasons for the IS shift

• Stock market crash  exogenous C

• Oct-Dec 1929: S&P 500 fell 17%
• Oct 1929-Dec 1933: S&P 500 fell 71%
• Drop in investment
• “correction” after overbuilding in the 1920s
• widespread bank failures made it harder to obtain
financing for investment
• Contractionary fiscal policy
• Politicians raised tax rates and cut spending to combat
increasing deficits.
THE MONEY HYPOTHESIS:
A shock to the LM curve
• asserts that the Depression was largely due to huge fall in
the money supply.
• evidence:
M1 fell 25% during 1929-33.
• But, two problems with this hypothesis:
• P fell even more, so M/P actually rose slightly during 1929-31.
• nominal interest rates fell, which is the opposite of what a
leftward LM shift would cause.
THE MONEY HYPOTHESIS AGAIN:
The effects of falling prices
• asserts that the severity of the Depression was due to a
huge deflation:
P fell 25% during 1929-33.
• This deflation was probably caused by the fall in M, so
perhaps money played an important role after all.
 THE MONEY HYPOTHESIS AGAIN:
The effects of falling prices

• The stabilizing effects of deflation:

 P  (M/P )  LM shifts right  Y
• Pigou effect:
P  (M/P )
 consumers’ wealth 
 C
 IS shifts right
 Y
THE MONEY HYPOTHESIS AGAIN:
The effects of falling prices
• The destabilizing effects of expected deflation:
 e
 r  for each value of i
 I  because I = I (r )
 planned expenditure & agg. demand 
 income & output 
 THE MONEY HYPOTHESIS AGAIN:
The effects of falling prices

• The destabilizing effects of unexpected deflation:

debt-deflation theory
P (if unexpected)
 transfers purchasing power from borrowers to lenders
 borrowers spend less,
lenders spend more
 if borrowers’ propensity to spend is larger than lenders’, then
aggregate spending falls,
the IS curve shifts left, and Y falls
 Why another Depression is unlikely

• Policymakers (or their advisors) now know

much more about macroeconomics:
• The Fed knows better than to let M fall
so much, especially during a contraction.
• Fiscal policymakers know better than to raise taxes or cut spending
during a contraction.

• Federal deposit insurance makes widespread bank

failures very unlikely.
• Automatic stabilizers make fiscal policy expansionary
during an economic downturn.
 Summary

1. IS-LM model
• a theory of aggregate demand
• exogenous: M, G, T,
P exogenous in short run, Y in long run
• endogenous: r,
Y endogenous in short run, P in long run
• IS curve: goods market equilibrium
• LM curve: money market equilibrium

slide 23
 Summary

2. AD curve
• shows relation between P and the IS-LM model’s
equilibrium Y.
• negative slope because
P  (M/P )  r  I  Y
• expansionary fiscal policy shifts IS curve right, raises
income, and shifts AD curve right.
• expansionary monetary policy shifts LM curve right,
raises income, and shifts AD curve right.
• IS or LM shocks shift the AD curve.

slide 24
 Kurva Permintaan Agregat dalam Islam
• Perubahan tingkat harga akan mempengaruhi keseimbangan melalui
pengaruhnya terhadap penawaran uang riil. Jumlah penawaran uang
riil adalah :
M’s = Ms
P
dimana :
Ms adalah penawaran uang nominal dan P adalah tingkat harga.
• Kenaikan tingkat harga akan menurunkan penawarab uang riil, dan
sebaliknya penurunan tingkat harga akan meningkatnkan penawaran
uang riil
• Pada ekonomi Islam, peningkatan penawaran uang riil
karena penurunan tingkat harga akan meningkatkan
jumlah uang tunai yang dipegang oleh perorangan maupun
oleh perusahaan.
• Kemudian mereka mengurangi jumlah uang tunai dengan
melakukan investasi agar zakat dan biaya lainnya dibayar
dari keuntungan usaha.
• Dengan demikian, investasi berhubungan dengan tingkat
keuntungan yang diharapkan, dan melalui efek multiplier
akan meningkatkan pendapatan nasional.
• Sebagian uang yang diaktifkan diarahkan kepada
peningkatan konsumsi dan pendapatan nasional.
• Perubahan tingkat harga akan menimbulkan efek Pigou
terhadap perilaku perorangan, terutama pada pengeluaran-
pengeluaran konsumtif.
• Uang tunai merupakan bagian kekayaan seseorang, tetapi
berbeda dengan kekayaan fisik lain yang niali
nominalnya dapat naik atau turun sesuai tingkat harga
umum. Nilai nominal uang adalah tetap sementara nilai
riilnya bergerak berlawanan arah dengan tingkat harga.
Jika tingkat harga akan turun maka jumlah uang tunai riil
akan meningkat, kekayaan meningkat, keinginan
konsumsi meningkat.(Asumsi kekayaan mempengaruhi
tingkat konsumsi)
• Penurunan harga umum akan meningkatkan upah riil , dan
ini akan meningkatkan konsumsi. Peningkatan konsumsi
selanjutnya meningkatkan pendapatan nasional.
• Penurunan tingkat harga umum yang menyebabkan
kenaikan konsumsi mengakibatkan kurva IS bergeser ke
bawah dan mengakibatkan kenaikan Y pada tingkat
keuntungan yang diharapkan tertentu (r0). Jadi penurunan
tingkat harga mengakibatkan kenaikan pendapatan
nasional, dan sebaliknya. Terdapat hubungan terbalik
antara tingkat harga dan pendapatan nasional.Hubungan
ini ditunjukkan oleh fungsi permintaan agregat (D).
 (a) (b)
C C

C1 I’=S

Co

45˚
Po P Co C
P1
I o So
©
r I 1 S1

Y
(e)
P
P (d)

P1
P1

45˚ D
Y Y
Y1
• Gambar di atas menunjukkan penurunan harga dari Po ke
P1 berakibat pada peningkatan C dari Co ke C1.
• Gambar b merupakan rancangan geometrik yang
memungkinkan memutar sumbu.
• Peningkatan konsumsi menggeser IS ke kanan.
• Melalui menggabungkan gbr a dan b dapat ditarik kurva
permintaan agregrat D. Kurva ini menunjukkan jika
tingkat harga umum turun Po ke P1 maka permintaan
produksi nasional meningkat dari Yo ke Y1.
• Jazakallah khoiron katsiro.