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Transcript of It’s a recession when your neighbor loses his job, it’s a depression when you lose yours. Harry...
Economic Fluctuations
It’s a recession when your neighbor loses his job, it’s a depression when you lose yours.
Harry Truman
Learning Objectives:
Learn about aggregate demand and the factors that will affect it
Analyze aggregate supply and the factors that influence it
Study the economy’s equilibrium and how it differs from its potential
Examine Canada’s historical record of economic growth.
What determines the
connections among
inflation, unemployment,
and levels of spending and
real output in the Canadian
economy?
Answer:
In the economy as a whole, we see the
relationship between the general price level
and total spending in the economy, which is
known as :
Aggregate Demand
Aggregate Demand Curve
Relationship between the general price level and total spending in the economy expressed on a graph.
0 650 700 750 800
40
80
120
160
200
Aggregate Demand Curve
Real GDP (1997 $ billions)
Pri
ce L
eve
l (G
DP
defl
ato
r,1
99
7 =
10
0)
Aggregate DemandSchedule
PriceLevel
Real GDP(1997,
$ billions)
Point onGraph
200160120
650700750
abc
a
b
cAD
Curve Continued….Two factors cause the aggregate demand
curve to be downward sloping:
The wealth effect that higher prices decrease the real value of financial assets and decrease consumption, since households feel poorer than normal.
The foreign trade effect means that higher prices decrease exports and increase imports.
What causes changes to the aggregate demand??
Remember spending has 4 components:
CONSUMPTION INVESTMENTGOVERNMENT PURCHASESNET EXPORTS
An increase in spending causes a rightward shift in the curve
A decrease in spending causes a leftward shift in the curve
CONSUMPTION
Disposable Income:Consumer spending is the most significant determinant of disposable income in the entire economy. The economy’s DI changes as a result of population changes, as well as DI/household. Therefore, when DI rises, then there is a rise on consumer spending, adding to total expenditures, and shifting the aggregate demand curve to the right.
Wealth:Consists of real (houses and appliances )and financial assets (stocks and bonds). Eg: if the stock prices increase, a person owning some stocks is going to experience a real gain in wealth, resulting in a greater likelihood of spending more of their disposable income. Aggregate demand will increase, and the curve will shift to the right.
Consumer Expectations:Consumer expectations influence the demand for products. If there is higher consumer spending then the aggregate demand increases, and aggregate demand curve shifts to the right.
Interest Rates:People often buy durable goods, such as cars and furniture, if the real interest rate falls, consumers are more likely to borrow to pay for big items. Consumer spending rises and the Aggregate demand curve shifts to the right.
INVESTMENT
In the investment demand curve, it’s the relationship between the interest rate and investment and depends on the real rate of return and the real interest rate
Business Expectations: If businesses anticipate that profits will increase, the investment demand curve shifts to the right, thereby causing an increase in the aggregate demand.
0
Investment Demand Curve
Investment (1997 $ billions)
Real R
ate
of
Retu
rn a
nd
Real In
tere
st R
ate
(%
)
30 60
4
8
12
A B C D
a
b
c
D1
Investment Demand Schedule
RealInterest
Rate(%)
TotalInvestment
(1997 $ billions)
Point onGraph
ProjectsUndertaken
1284
03060
abc
--A, B
A, B, C, D
Government purchases
Net Exports
If a rise occurs in Government purchases
Eg: Highway Construction
Aggregate Demand increases
Foreign IncomesIf incomes increase in foreign countries, then its likely that the citizens of that country will purchase more products as a result – their own and those from other countries. Canadian exports increase, thereby increasing Canada’s aggregate demand.
Exchange Rates It’s the value of one nation’s currency in terms of another currency. The impact of exchange rates on prices, are if the Canadian dollar increases in value, then the net exports fall causing aggregate demand to decrease.While the reverse occurs, when the Canadian dollar drops in value then the net exports rise increasing aggregate demand.
Brief Summary
Aggregate demand is the relationship between the price level and the total spending
Changes in the Aggregate Demand are caused by:
ConsumptionInvestment
Government PurchasesNet Exports.
Economic Fluctuation
Part 2Aggregate Supply
Review
-Wealth effect:when the price decrease,household feel richer,then they may buy more,the consumption will increase
-Foreign trade effect: lower prices-->increase exports-->decrease imports -Aggregate Demand : the relationship between
general price level and total spending in the economy
-Aggregate demand factors:C+I+G+Nx = GDPConsumption:Disposable income,Wealth,Consumer
expectation,Interest RentInvestment:interest rate,business expectationsGovernment PurchaseNet Exports:foreign incomes,exchange rate
Aggregate Supply
Aggregate Supply: the relationship between price level and real output in the economy
Aggregate Supply Curve :The slope of the total supply curve is upward sloping
Factors that can change in Aggregate Supply Curve
In Short run(potential output stays constant) :
-Input price
0 750 775 800 900
40
80
120
160
240
Aggregate Supply Curve
Real GDP (2007 $ billions)
Pric
e Le
vel (
GD
P d
efla
tor,
199
7 =
100
)
200
850825
a
b
c
dAS
PotentialOutput
Factors that can change in Aggregate Supply Curve
In Long run(potential output is variable):-Resources supplies-Productivity-Government policies
0 650 675 700 800
40
80
120
160
240
Aggregate Supply Curve
Real GDP (1993 $ billions)
Pric
e Le
vel (
GD
P d
efla
tor,
199
7 =
100
)
200
750725
NewPotentialOutput
OriginalPotentialOutput
AS0 AS1
Shifting to Rightward
In short run:- a fall in wages- a fall in raw material prices
In Long run:- more labour supply,capital
stock,land,entrepreneurship- an increase in productivity- lower taxes- less government regulation
Shifting to leftward
In Short run:-a rise in wages-a rise in raw material prices
In Long run:- less labour supply,capital
stock,land,entrepreneurship- a decrease in productivity- higher taxes- more government regulation
Part 3 Aggregate Demand and Supply
Aggregate Demand and Supply
- Inventory Changes- Results of an inventory increase- Results of an inventory decrease- The role of unplanned investment
Injections and withdrawals
- Investment and Saving- Government purchases and taxes- Exports and Imports- Total injections and withdrawals
Recessionary Gaps Inflationary Gaps
Equilibrium versus Potential Output
Labour productivity
Business cycles
Definitions
Expansion: A sustained rise in the real output of an economy
Contraction: A sustained fall in the real output of an economy
Business cycle: The cycle of expansions and contractions in the economy
Peak: The point in the business cycle at which real output is at its highest
Effects of a contractionRecessions and Depressions
Recessions: A decline in real output that lasts for six months or more
Depression: A particularly long and harsh period of reduced real output
Trough: The point in the business cycle at which real output is at its lowest
The highest output occurs at a peak in the business cycle. From this point, the economy contracts, so aggregate demand decreases. Consumer and business expectations magnify the downward trend.
The lowest output occurs in a trough in a business cycle. From this point, the economy expands, so aggregate demand increases. Expectations magnify the upward trend.
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