Unit 11: Aggregate Demand and Aggregate Supply
The one model that explains a recession, a boom, and the economy's own slow fix for both, as demand meets a supply curve that turns vertical in the long run.
11 topics · 42 questions
Each topic is a path, not a menu: work down it in order and every question builds on the one above. Click any of them to watch the answer draw itself.
What Aggregate Demand Is
- How it worksHow do consumption, investment, government purchases, and net exports stack together into aggregate demand?
- Common mistakeWhy isn't the aggregate demand curve just a giant version of the demand curve for one good?
- Going furtherWhat happens to aggregate demand when the price level is held fixed and only spending decisions change?
Your turn1 of 2
A student assumes the aggregate demand curve is built the exact same way as an ordinary demand curve for one good, just scaled up to cover the whole economy. What is the key difference?Why the Aggregate Demand Curve Slopes Downward
- How it worksWalk me through the wealth effect eating into spending power as the price level climbs.
- How it worksHow does the interest rate effect turn a higher price level into less business investment?
- How it worksHow does the exchange rate effect shrink net exports once domestic prices climb relative to prices abroad?
- Common mistakeWhy isn't the aggregate demand curve downward sloping for the same reason a single good's demand curve is?
Your turn1 of 2
A rise in the price level erodes the real value of household wealth, cutting consumption spending by 16 billion dollars for every one percentage point rise in prices. If the price level rises by 6 percent, what is the total drop in consumption from this wealth effect?What Shifts Aggregate Demand
- How it worksWalk me through a jump in consumer confidence shifting aggregate demand to the right.
- Worked exampleFind the net direction aggregate demand moves when investment falls by 60 billion dollars while government spending rises by 90 billion dollars.
- Common mistakeWhy doesn't a change in the price level itself ever shift the aggregate demand curve?
- Going furtherWhat happens to a country's aggregate demand when one of its largest trading partners falls into a recession?
Your turn1 of 2
Find the net direction aggregate demand moves when investment falls by 65 billion dollars while government spending rises by 79 billion dollars.Short-Run Aggregate Supply
- How it worksHow do sticky wages and sticky prices make the short-run aggregate supply curve slope upward?
- Common mistakeWhy isn't the short-run aggregate supply curve upward sloping simply because firms want more profit?
- Going furtherWhat happens to the short-run aggregate supply curve as an economy is pushed far past full employment?
- Ties togetherHow does the sticky-wage story behind short-run aggregate supply connect back to the natural rate of unemployment?
Your turn1 of 2
Short-run aggregate supply is Qs = 18482 plus 395 times P. At a price level of 128, what is output supplied?What Shifts Short-Run Aggregate Supply
- How it worksWalk me through a rise in nominal wages shifting short-run aggregate supply and landing a new equilibrium.
- Worked exampleFind what happens to output and the price level when short-run aggregate supply shifts left by 500 billion dollars of potential output.
- Common mistakeWhy doesn't a change in the price level itself shift the short-run aggregate supply curve?
- Going furtherWhat happens to short-run aggregate supply once every firm and worker starts expecting much higher inflation next year?
Your turn1 of 2
Short-run aggregate supply shifts left by 309 billion dollars of potential output. If aggregate demand has a slope of 11 against the price level and the original short-run aggregate supply curve has a slope of 14, by how much does the equilibrium price level rise?Long-Run Aggregate Supply
- How it worksHow do fully flexible wages and prices strip the price level completely out of long-run output?
- Common mistakeWhy isn't long-run aggregate supply vertical because a country is physically incapable of producing any more?
- Going furtherWhat shifts the long-run aggregate supply curve to the right when the price level itself cannot move it?
- Ties togetherHow does an outward shift of a country's production possibilities frontier show up as long-run aggregate supply moving right?
Your turn1 of 2
A country's long-run aggregate supply sits at 23 trillion dollars of potential output. If new technology raises potential output by 8 percent, what is the new long-run aggregate supply level?Equilibrium in the AD-AS Model
- How it worksWalk me through plotting aggregate demand, short-run aggregate supply, and long-run aggregate supply on one set of axes and reading off equilibrium.
- Common mistakeWhy isn't the short-run equilibrium always sitting right on top of full-employment output?
- Going furtherWhat happens when short-run equilibrium happens to land exactly on the long-run aggregate supply line?
Your turn1 of 2
Aggregate demand is Qd = 24179 minus 197 times P and short-run aggregate supply is Qs = 14661 plus 142 times P. Find the equilibrium price level.Recessionary and Inflationary Gaps
- How it worksHow does a recessionary gap look on the AD-AS graph next to an inflationary gap?
- Worked exampleFind the size of the recessionary gap when equilibrium output is 19.8 trillion dollars and long-run aggregate supply sits at 20.6 trillion dollars.
- Common mistakeWhy isn't an inflationary gap actually a good position for an economy to be sitting in?
- Ties togetherHow does a recessionary gap on the AD-AS graph turn into a rising unemployment rate?
Your turn1 of 2
Find the size of the recessionary gap when equilibrium output is 20 trillion dollars and long-run aggregate supply sits at 23.12 trillion dollars.Demand Shocks in the Short Run
- How it worksWalk me through a negative demand shock moving output, employment, and the price level together.
- Worked exampleFind the change in real GDP when autonomous spending falls by 300 billion dollars and the resulting shift moves along a downward-sloping SRAS.
- Common mistakeWhy doesn't a fall in aggregate demand lower prices exactly as fast as it lowers output?
- Going furtherWhat happens to an economy already sitting at full employment when a positive demand shock hits it?
Your turn1 of 2
Find the change in real GDP when autonomous spending falls by 309 billion dollars and the resulting shift moves along a downward-sloping short-run aggregate supply curve with a slope of 14, given an aggregate demand slope of 11.Supply Shocks and Stagflation
- How it worksHow does a leftward shift in short-run aggregate supply push output down and the price level up simultaneously?
- Common mistakeWhy isn't stagflation something a shift in aggregate demand alone could ever produce?
- Going furtherWhat happens to a policymaker's options once a shock hits the supply side instead of the demand side?
- Ties togetherHow does a 1970s-style oil shock show up on both the AD-AS graph and the Phillips curve at the same time?
Your turn1 of 2
An oil price spike shifts short-run aggregate supply left, and aggregate demand has a slope of 11 against the price level while the original short-run aggregate supply curve has a slope of 14. If the shift is 309 billion dollars of potential output, by how much does the price level rise?Long-Run Self-Correction
- How it worksWalk me through nominal wages falling and short-run aggregate supply sliding right until a recessionary gap closes on its own.
- Common mistakeWhy doesn't the existence of long-run self-correction make fiscal and monetary policy pointless?
- Going furtherWhat happens instead when an economy stuck in an inflationary gap is left to self-correct?
- Ties togetherHow does self-correction always end an economy at exactly the output that the long-run aggregate supply curve promised all along?
Your turn1 of 2
An economy sitting in a recessionary gap will eventually self-correct on its own as wages fall and short-run aggregate supply shifts right. Does fiscal and monetary policy still have a real job to do?