Slide 1Slide 2Aggregate DemandThe Aggregate Demand CurveThe Aggregate Demand CurveWhat else??ADADShifts of the Aggregate Demand CurveMovement or shift, left, right, up, down?Movement or shift, left, right, up, down?Long-Run Aggregate Supply CurveLong-Run Aggregate Supply CurveEconomic Growth Shifts the LRAS Curve RightwardThe Short-Run Aggregate-Supply CurveThe Short-Run Aggregate Supply CurveSRASShift of Short-Run Aggregate-Supply CurveShift or Movement, right, left, up, down?From the Short Run to the Long RunThe AS–AD ModelLong-Run Macroeconomic EquilibriumActual and Potential Output from 1989 to 2007Short-Run versus Long-Run Effects of a Negative Demand ShockShort-Run versus Long-Run Effects of a Positive Demand ShockGap RecapEconomic Stabilization PolicySelf Correcting??Negative SR Supply ShockAccommodating an Adverse Shift in Aggregate SupplyMacroeconomic PolicyCh 12. Aggregate Demand and Aggregate SupplyWho demands in the economy?(in macroeconomic view)Aggregate DemandAggregate demanded by households, businesses, the government and the rest of the world.Household – ConsumptionFirms – InvestmentGovernment – Government expenditures on goods & servicesRest of the world – Net Export ( = Export – Import)AD = C + I + G + NX7.919330 716Real GDP (billions of 2005 dollars)Aggregate pricelevel (GDP deflator,2005 = 100)Aggregate demand curve, ADA movement down theAD curve leads to a loweraggregate price level andhigher aggregate output.10004.2The Aggregate Demand CurveIt is downward-sloping: P up then Y down (OR P down then Y up)Assuming All Else Equalwealth effect of a change in the aggregate price levelP  purchasing power  C  Yinterest rate effect of a change in aggregate the price levelP  Value of Money (raises the purchasing power of money)  (Nominal) Interest rate  I (& C)  YThe Aggregate Demand CurveWhat else??Other than aggregate price level, what else can change Aggregate Demand?Why stock market, housing market or tax policy is important when analyzing macro economy?ADAD curve shows inverse relationship between aggregate price level and the real output in the economy.Eg) Stock market boom  consumers’ wealth up  spending up  inventory down  employment up  output (Y) upWhen one of these other factors of AD changes (other than P), the AD shifts.ADYAD = AD(P, Tax, G, Ms, i, Consumer confidence, Credit, residential wealth, financial wealth, biz confidence, competition, YF, Exchange Rate, …)AD curve shows inverse relationship between aggregate price level, P, and the real output, YAD in the economy.When one of these other factors changes (other than P), the AD shifts.AD1AD1AD2AD2Real GDPReal GDPAggregate price level(a) Rightward Shift (b) Leftward ShiftAggregate price levelShifts of the Aggregate Demand CurveIncrease in aggregate demandDecrease in aggregate demandMovement or shift, left, right, up, down?Assuming all else equal,1.In German Economy: a weak reading of German investor sentiment - on concerns about a slowing in U.S. economic momentum and uncertainty around the emerging markets outlook.2. In Japanese Economy: The big loser from the BoJ action and subsequent bank-led Nikkei rally was the yen, which lost ground against all of its major currency peers, with the dollar gaining 0.6 percent to trade just off its February high.3. In U.K., eroding the spending power of households and making the fall in living standards a big political issue…Movement or shift, left, right, up, down?4. In U.K. an underlying measure of inflation, which strips out increases in energy, food, alcohol and tobacco, rose by 1.6 percent and factory gate prices rose by 0.9 percent5. Sales of new cars surged 11.4% on quarter, leading to a 17.0% jump in consumption of durable goods.6. Japan plans to raise its sales tax in April. Once sales tax goes up…7. India’s interim government announced temporary cuts in excise duties …Experts said the duty cuts should help in making consumer durables and automobiles more affordable…The long-run aggregate supply curve shows the relationship between the aggregate price level and the quantity of aggregate output supplied that would exist if all prices, including nominal wages, were fully flexible.In the long run, an economy’s production of goods and services depends on its supplies of labor, capital, and natural resources and on the available technology used to turn these factors of production into goods and services. Long-Run Aggregate Supply Curve15.00 $1600Real GDP (billions of 2000 dollars)Aggregate pricelevel (GDP deflator,2000 = 100)Potentialoutput, YPLong-run aggregatesupply curve, LRAS7.5A fall in theaggregateprice level……leaves the quantityof aggregate outputsupplied unchangedin the long run.Long-Run Aggregate Supply CurveEconomic Growth Shifts the LRAS Curve RightwardThe Short-Run Aggregate-Supply CurveQuantity ofOutputPriceLevel0Short-runaggregatesupply1. An increasein the pricelevel . . .2. . . . raises the quantityof goods and servicessupplied in the short run.Y2P2Y1P1The Short-Run Aggregate Supply CurveThe short-run aggregate supply curve is upward-sloping because:* Sticky Wages P  profit per unit of output  Y given fixed nominal wages*Sticky PricesP  profit per unit of output  Y given fixed input prices a higher aggregate price level leads to higher profits and increased aggregate output in the short run.SRASHow does input cost, such as nominal wage, matter in SRAS?Nominal wage increases, Businesses have lower unit profit,Either exit the market, Or cut back production to survive.Shift of Short-Run Aggregate-Supply CurveYSRAS = SRAS (P, Labor, Physical capital, Human capital, Resources, Tech, Cost of resources, PE, etc.)The aggregate supply curve shows the relationship between the aggregate price level, P, and the quantity of aggregate output, YSRAS in the economy.Shift or Movement, right, left, up, down?Assuming all else equal,1. hourly wages & salaries rose by 1.9% and the non-wage component by 1.4% in the year up to the second quarter of 2012, 2. Workers’ productivity grew modest amount in short run.3. Wages does not increase during the boom, as aggregate price increases4. Consumer confidence/sentiment increases.Y1YPP1LRASReal GDPAggregate price levelA2From the Short Run to the Long RunAD2AD1P2A1YEPEESRSRASADReal GDPAggregate price levelShort-run macroeconomic equilibriumThe AS–AD