Aggregate demand: Schedule indicating spending plans of agents at alternative price levels.
Pri
ce le
vel
Y0
AD1
AD2
Any factor that wouldshift the AE schedulewill shift AD as well
Pri
ce le
vel
Y0
AD1
AD2
AD1 to AD2 due to:
•Increase in income
•Increase in wealth
•Increase in consumer or business confidence
•Population growth
•Lower taxes
Pri
ce le
vel
Y0
AD1
to due to
The wealth effect.
The interest rate effect
The international trade effect.
The interest rate effect is poorly
explained by Boyes& Melvin on pp. 207-208
Aggregate supply is the schedule indicating the quantity to total output supplied at alternative price levels
Pri
ce le
vel
Y0
AS1 AS2 AS1 AS2 due to:
•Rising input prices (wages, intermediate goods, raw materials)
•Decreased productivity
Productivity () means the average output of a worker
per year, or alternatively: = Y/N
where N is total employment.
depends onthe efficiency with
which labor is employedin the production of
goods & services
Let denote average annual compensation of employees (including benefits). Thus unit labor cost (UCL) is defined as:
ULC = /
Notice that compensationcan rise with no effect on ULC,
so long as productivitykeeps pace
Pri
ce le
vel
YY1
AS1AS2
An increasein ULC atevery level
of Y will shiftAS to the left
0
P1
P2
Pri
ce le
vel
Y0
AS
AD1
AD2
2
1
Many economiststhink this accurately
describes the U.S.situation in 1966-68
Notice that both Y and P increase
Y*
LRAS
AD1
AD2P1
P2
0Y
Pri
ce le
vel
With the economyat full-employment,
a change in AD affects prices --but not output,
real income, or employment
Pri
ce le
vel
Y0
AS1
AD
AS2
Y2Y1
P1
P2
Cost-push isa drag sinceY decreases
and P increases
•Grain failures
•Anchovies
•Oil shocks
•Wage and salary pressures
Stagflation is thesimultaneous
presence of highinflation and
unemployment
Date Price ($)Jan. 1972 1.79Dec. 1973 4.68Jan. 1974 10.84
April 1979 14.55June 1979 18.00
Nov 1979 24.00
Aug. 1980 30.00Oct. 1981 34.00
Source: The Petroleum Economist
I’d call that a shock,wouldn’t you? The story
of Joseph (see Old Testament)suggests buffer stocks
as the remedy forsupply-shock
inflation
Price of One Barrel of 340 crude oil
0
20
40
60
80
100
120
1982=100
Productivity and Costs, 1974-83
Productivity 93.2 95.1 97.9 99.7 101 99.5 99.2 100 102
Compensation 49.9 54.8 59.7 64.5 70.1 77 85.1 100 104
Unit Labor Cost 53.5 57.6 61 64.7 69.7 77.4 85.6 100 101
74 75 76 77 78 79 80 82 83
Source: Economic Report of the President
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