, Sixth Edition
Fundamental Question Review
Macroeconomic Equilibrium: Aggregate Demand and Supply
- What factors affect aggregate demand?
The nonprice determinants of aggregate demand are consumption, investment, government spending, and net exports. The downward slope of the aggregate demand curve is due to the wealth effect, the interest rate effect, and the international trade effect.
- What causes the aggregate demand curve to shift?
Anything that affects consumption, investment, government spending, or net exports will cause the aggregate demand curve to shift: changes in income, wealth, demographics, expectations, taxes, the interest rate, technology, the cost of capital goods, capacity utilization, foreign income and price levels, exchange rates, and government policies.
- What factors affect aggregate supply?
The aggregate supply curve shows the quantity of national output (or income) produced at different price levels. It has an upward slope because higher prices, ceteris paribus, mean higher profits, which induce producers to offer more output for sale.
- Why does the short-run aggregate supply curve become steeper as real GDP increases?
As the level of real GDP increases, more and more sectors of the economy approach capacity. In order to lure resources from other uses, firms must offer higher and higher resource payments. Prices must rise higher and higher to induce increases in output. Finally, no more output can be produced and existing output must be "rationed" to those who are willing to pay the highest prices.
- Why is the long-run aggregate supply curve vertical?
The long-run aggregate supply curve is vertical because in the long run there is no relationship between changes in the price level and changes in output. The economy has made all of its adjustments, and no further output can be produced with existing resources and technology. In particular, higher prices cannot induce more output.
- What causes the aggregate supply curve to shift?
The aggregate supply curve shifts if resource prices, technology, or expectations change.
- What determines the equilibrium price level and real GDP?
The equilibrium price level and real GDP are determined by the intersection of aggregate demand and aggregate supply.