1. Unit 3: Aggregate Demand and Supply and Fiscal Policy1
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2. Classical vs. Keynesian
Adam Smith
John Maynard Keynes
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4. Keynes vs. Hayek Rap Battle4
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5. Debates Over Aggregate Supply
Classical Theory
A change in AD will not change output even in the short run because prices of resources (wages) are very flexible.
AS is vertical so AD can’t increase without causing inflation. AS
Price level AD Qf
Real domestic output, GDP
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6. Debates Over Aggregate Supply
Classical Theory
A change in AD will not change output even in the short run because prices of resources (wages) are very flexible.
AS is vertical so AD can’t increase without causing inflation. AS
Recessions caused by a fall in AD are temporary.
Price level
Price level will fall and economy will fix itself.
No Government Involvement Required AD
AD1 Qf
Real domestic output, GDP 6
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7. Do you agree or disagree?
“The long run is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is past the ocean is flat again”
Translation:
In times of need, economists should do more than say that the economy will fix itself. They should suggest policies that can help the economy, like deficit spending.
Do you agree or disagree?
John Maynard Keynes

8. Debates Over Aggregate Supply
Keynesian Theory
A decrease in AD will lead to a persistent recession because prices of resources (wages) are NOT flexible.
Increase in AD during a recession doesn’t cause inflation AS
Price level AD Qf
Real domestic output, GDP 8
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ACDC Leadership 2015

9. Debates Over Aggregate Supply
Keynesian Theory
A decrease in AD will lead to a persistent recession because prices of resources (wages) are NOT flexible.
Increase in AD during a recession puts no pressure on prices AS
Price level
“Sticky Wages” prevents wages from falling.
The government should deficit spend to close the gap AD
AD1 Q1 Qf
Real domestic output, GDP 9
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ACDC Leadership 2015

10. Debates Over Aggregate Supply
Keynesian Theory
A decrease in AD will lead to a persistent recession because prices of resources (wages) are NOT flexible.
Increase in AD during a recession puts no pressure on prices AS
When there is high unemployment, an increase in AD doesn’t lead to higher prices until you get close to full employment
Price level
AD3
AD1
AD2 Q1 Qf
Real domestic output, GDP 10
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11. Three Ranges of Aggregate Supply
1. Keynesian Range- Horizontal at low output
2. Intermediate Range- Upward sloping
3. Classical Range- Vertical at Physical Capacity AS
Price level
Classical
Range
Keynesian
Range
Intermediate
Range Qf
Real domestic output, GDP 11

12. 2006B Practice FRQ 12
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13. 2006B Practice FRQ 13
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ACDC Leadership 2015