Macroeconomic Equilibrium
The AD-AS Model
Aggregate Demand
• Just as we can determine a demand curve for
a particular good or service, we can also
determine an Aggregate Demand Curve that
represents demand in the macro economy
• In this case, it is the demand for a certain level
of output (GDP) at a particular price level
Shift in Aggregate Demand
• Changes in Expectations
– Greater optimism leads to more spending at any
given price level
• Changes in Wealth
– As household assets increase in value, people feel
free to spend more at any given price level
Figure 17.2 Shifts of the Aggregate Demand Curve
Ray and Anderson: Krugman’s Macroeconomics for AP, First Edition
Copyright © 2011 by Worth Publishers
Short-Run Aggregate Supply
(SRAS)
• Upward sloping, just as in market case
– But again for different reasons
• Profits = Price of Outputs – Price of Inputs
– Revenue generated by price increases outpaces
increases in input costs (wages are “sticky”)
– So, in the short-run curve slopes upwards
• Reverse is also true
Changes in SRAS
1. Changes in commodity prices
– Oil; steel
– Decrease in commodity prices = increase in SRAS
2. Changes in nominal wages
– Increase in nominal wages = decrease in SRAS
3. Change in productivity
– Increases in productivity = increase in SRAS
Figure 18.2 Shifts of the Short-Run Aggregate Supply Curve
Ray and Anderson: Krugman’s Macroeconomics for AP, First Edition
Copyright © 2011 by Worth Publishers
Long-Run Aggregate Supply
(LRAS)
• In the longer term, “sticky” input prices “catch
up” to output prices
• Therefore, in the long run, price level should
have no affect on aggregate supply
• So, aggregate supply would be a vertical line
Long-Run Aggregate Supply
• What is the significance of the output value
(Y) at which the LRAS is vertical?
• The answer is the economy’s potential output
– YP
– This represents the level at which the economy
would produce if all prices (including wages) were
perfectly flexible
Figure 18.4 Actual and Potential Output from 1989 to 2009
Ray and Anderson: Krugman’s Macroeconomics for AP, First Edition
Copyright © 2011 by Worth Publishers
Long-Run Macroeconomic Equilibrium
Figure 19.4 Long-Run Macroeconomic Equilibrium
Ray and Anderson: Krugman’s Macroeconomics for AP, First Edition
Copyright © 2011 by Worth Publishers