Lecture Notes: Aggregate Expenditures and Aggregate Demand

Overview

• This chapter is simpler due to familiarity from previous chapters.
• Focus on integrating past learnings into understanding the Aggregate Expenditures graph.
• Transition from specific supply and demand graphs to aggregate models representing entire GDP.
• Key difference: Aggregate Demand and Supply involve the entire economy, not just single products.

Aggregate Expenditures Model

• Previous chapters assumed immediate short-run, with constant prices.
• Now considering a variable price model.

Aggregate Demand (AD) and Aggregate Supply (AS)

• Aggregate Demand Curve: Reflects total demand across the economy.

  • **Downward Sloping Reasons: (New) **
    • Real Balances Effect: Wealth effect from changes in price level.
    • Interest Rate Effect: Lower interest rates increase borrowing and spending.
    • Foreign Purchases Effect: Lower domestic prices increase foreign purchases of GDP.

• Shifts in Aggregate Demand:

  • Caused by changes in aggregate expenditures components: consumption, investment, government spending, and net exports.
  • Associated with the Multiplier Effect (Marginal Propensity to Consume).
  • Interest Rates: Lower rates increase consumer and business spending, shifting AD right.
  • Expectations: Consumer and business expectations about the economy can shift AD.

Aggregate Supply (AS)

• Dependent on time frame: Immediate short-run, short-run, and long-run.
  • Immediate Short-Run: Prices are fixed.
  • Short-Run: Some resources can change, primarily labor. Capital is fixed.
  • Long-Run: All factors can change.
• Graph Analysis:
  • Increases in output may not immediately increase prices.
  • Full employment is represented by intersection with AS and AD at equilibrium.

Shifts in Aggregate Supply

• Factors Influencing AS:
  • Time: Ability to respond to AD changes.
  • Per Unit Production Cost: Affects profitability.
  • Productivity: Increased productivity shifts AS right.
  • Legal and Institutional Changes: Taxes, subsidies, and regulations.

Equilibrium and Disequilibrium

• Equilibrium when AD and AS intersect.
• Disequilibrium leads to shortages or surpluses, affecting price levels.

Inflation Types

• Demand-Pull Inflation: Excessive demand drives prices up.
• Cost-Push Inflation: Increased production costs reduce GDP and raise prices.
  • Harder to recover from due to recessionary impact.

Strategies During Recessions

• Monetary Policy: Adjusting interest rates to influence spending.
• Fiscal Policy: Government spending adjustments to influence demand.
• Example: Great Recession response involved interest rate cuts and increased government spending.

Conclusion

• Understanding the interaction between AD and AS is crucial for economic analysis.
• Equilibrium and strategic policy responses are key to managing economic fluctuations.