1. # McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved. Aggregate Demand and Aggregate Supply 7

2. 7-2 Aggregate Demand Real GDP desired at each price level Inverse relationship Real balances effect Interest effect Foreign purchases effect LO1

3. 7-3 Aggregate Demand Real domestic output, GDP Price level AD LO1 0

4. 7-4 Changes in Aggregate Demand Determinants of aggregate demand Change in consumer spending Change in investment spending Change in government spending Change in export spending LO1

5. 7-5 Changes in Aggregate Demand Real domestic output, GDP Price level AD 1 AD 3 AD 2 LO1 0

6. 7-6 Consumer Spending Consumer wealth Household borrowing Consumer expectations Personal taxes LO1

7. 7-7 Investment Spending Real interest rates Expected returns Expectations about future business conditions Technology Degree of excess capacity Business taxes LO1

8. 7-8 Investment Spending LO1

9. 7-9 Government Spending Government spending increases Aggregate demand increases (as long as interest rates and tax rates do not change) More transportation projects Government spending decreases Aggregate demand decreases Less military spending LO1

10. 7-10 Net Export Spending National income abroad Exchange rates Dollar depreciation Dollar appreciation LO1

11. 7-11 Net Export Spending LO1

12. 7-12 Aggregate Supply Total real output produced at each price level Relationship depends on time horizon Immediate short run Short run Long run LO2

13. 7-13 AS: Immediate Short Run Real domestic output, GDP Price level AS ISR QfQf Immediate-short-run aggregate supply P1P1 0 LO2

14. 7-14 Aggregate Supply: Short Run Real domestic output, GDP Price level 0 QfQf AS Aggregate supply (short run) LO2

15. 7-15 Aggregate Supply: Long Run Real domestic output, GDP Price level AS LR QfQf 0 Long-run aggregate supply LO2

16. 7-16 Changes in Aggregate Supply Determinants of aggregate supply Change in input prices Change in productivity Change in legal-institutional environment Collectively position the AS curve Changes raise or lower per-unit production costs LO2

17. 7-17 Changes in Aggregate Supply Real domestic output, GDP Price level AS 1 AS 3 AS 2 0 LO2

18. 7-18 Input Prices Domestic resource prices Labor Capital Land Prices of imported resources Imported oil Exchange rates LO2

19. 7-19 Productivity Real output per unit of input Increases in productivity reduce costs Decreases in productivity increase costs LO2 Per-unit production cost = Total input cost Total output Productivity = Total output Total inputs

20. 7-20 Legal-Institutional Environment Legal changes alter per-unit costs of output Taxes and subsidies Extent of government regulation LO2

21. 7-21 Equilibrium Real domestic output, GDP (billions of dollars) Price level (index numbers) 100 92 502510514 a b AD AS Real Output Demanded (billions) Price Level (index number) Real Output Supplied (billions) $506108$513 508104 512 510100 510 51296 507 51492 502 0 LO3

22. 7-22 AD Increases: Demand-Pull Inflation Real domestic output, GDP Price level AD 1 AS P1P1 P2P2 Q2Q2 Q1Q1 QfQf AD 2 0 LO4

23. 7-23 Decreases in AS: Cost-Push Inflation Real domestic output, GDP Price level AD AS 1 P1P1 P2P2 Q1Q1 QfQf AS 2 a b 0 LO4

24. 7-24 Downward Price-Level Inflexibility Prices are downwardly inflexible Fear of price wars Menu costs Wage contracts Efficiency wages Minimum wage law LO4

25. 7-25 Decreases in AD: Recession Real domestic output, GDP Price level AD 1 AS P1P1 P2P2 Q1Q1 Q 2 QfQf AD 2 c a b 0 LO4

26. 7-26 The Multiplier Effect Shifts in AD embody an “initial change” in spending Price levels and average wage levels are becoming more flexible downward LO4 Multiplier = Change in real GDP Initial change in spending