The AD AS Equilibrium &Long Run Aggregate Supply

Equilibrium: Real Output and the Price Level

• The intersection of the aggregate demand curve AD and the aggregate supply curve AS establishes the economy's equilibrium price level and equilibrium real output.

An Increase in Aggregate Demand:How Does it Affect P* and Q* (Equilibrium)

• If households, businesses, or governments increase spending.

• This is due to a positive change in the determinants of Ig, C, or Xn.

• G could increase based on need.

• Review the DETERMINANTS.

Price Level Changes (Inflation) can Hinder Output (GDP) Growth.

• Notice that if AS was perfectly horizontal (excess resources available. ie. Unemployment and capacity), output would have increased all the way to GDP1.

• Rising prices hinder growth and leave us at GDP2.

Full Employment and Price Level Stability

• At Full Employment, increases in AD should result in inflation because we have an upward sloping AS curve.

• However, a shift in the Aggregate Supply Curve could offset the rise in price level and result in increased output.

• What factors (determinants) could increase AS to help moderate inflation?

Key Questions 6 & 7

• Important for Test and Exam Preparation. • Review and seek clarification on concepts if

necessary.• It is important to familiarize yourself with the

lists of AD and AS determinants.

The Short-Run vs. The Long-Run

• The Short-Run: A period in which input/resource prices remain fixed while the general price level changes.

• Considerable time can pass before inflation results in increased wages for workers.

• People can be unaware of the “real” wage.

The Short-Run vs. The Long-Run

• The Long-Run: Resource prices including wages are responsive to changes in the general price level.

• The Long-Run Aggregate Supply Curve is vertical at the full-employment level of Real GDP.

• As prices move higher, workers demand higher wages. This shifts AS left, and vice versa. Leaving us back at the same level of output.

Short-Run AS and Long-Run As

Equilibrium and Full Employment GDP

• The LRAS Curve represents the economy’s full employment or potential GDP.

• The equilibrium is where the AD curve intersects the LRAS curve.

• In the short-run, the economy can be at a point of undesirable unemployment or inflation, but it should rest back to equilibrium.

Inflationary and Recessionary Gaps

Test and Exam Preparation

• Questions 8,9,10, and 11 on pages 251-252.