11 - TOPIC 11 AGGREGATE DEMAND AND AGGREGATE SUPPLY TOPICS...

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TOPIC 11 AGGREGATE DEMAND AND AGGREGATE SUPPLY
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TOPICS THE FOUNDATION OF AGGREGATE DEMAND THE FOUNDATION OF AGGREGATE SUPPLY POLICY REVISITED: APPLYING AD-AS MODEL
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THE AD-AS MODEL A framework to understand the impact of various events on the output, employment rate and the price level. Unlike the multiplier model, the AD-AS can be used to analyze both short run and long run impacts.
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AGGREGATE DEMAND The aggregate demand relation captures the effect of the price level on output . An increase in the general price level leads to a decrease in output; a decrease in the general price level leads to an increase in output.
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AGGREGATE DEMAND CURVE P Real GDP (Y) Price Level 130 120 10.0 10.5 AD
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WHY DOWNWARD SLOPING A higher price 1. reduces consumption the purchasing power of nominal income and wealth is reduced 2. reduces net export domestic products become relatively more expensive than the imports
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PRICE AND AGGREGATE DESIRED EXPENDITURE Aggregate Desired Expenditure Real GDP 45 degree line AE (P=120) AE’ (P=130) 10.0 10.5
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WHY DOWNWARD SLOPING A lower price level increases consumption and net export. The aggregate desired expenditure increases. As a result, the equilibrium output level increases.
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PRICE AND AGGREGATE DESIRED EXPENDITURE Aggregate Desired Expenditure Real GDP 45 degree line AE (P=120) AE’ (P=130) 10.0 10.5 9.5 AE’’ (P=140)
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AGGREGATE DEMAND CURVE P Real GDP (Y) Price Level 130 120 10.0 10.5 AD 140 9.5
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PRICE AND INVESTMENT How does the change in the price level affect investment? The impact is not certain . Suppose the price level is now higher. Can you describe the changes in the money market as a result?
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PRICE AND INTEREST RATE i (%) Quantity of Money MD (P=120) MD’ (P=130) MS 4 3
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PRICE AND INVESTMENT Real vs. nominal interest rate real interest rate = nominal interest rate – inflation rate For example if i=4%, while inflation rate=6%, then real interest rate = 4% - 6%= -2%.
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Desired investment depends on REAL interest rate instead of nominal interest rate. If the real interest rate increases, desired
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This note was uploaded on 09/20/2008 for the course FB AF2001 taught by Professor Slash during the Spring '08 term at Hong Kong Polytechnic University.

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11 - TOPIC 11 AGGREGATE DEMAND AND AGGREGATE SUPPLY TOPICS...

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