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02/12/12
Macro vs. Micro Aggregate Demand and Supply Measuring Economic Success
Output Employment Inflation
Equilibrium Changes in Macroeconomics The Problem of Macroeconomic Stabilization U.S. Macroeconomic History
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and who gets to consume what. We do care about how much is produced.
Its all about the big picture and not the small detail. In microeconomics, we focus on individual decision
making.
economy as a whole.
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Macroeconomics analyzes the size of the economy (pie), not caring what's inside or how its divided. Microeconomics looks at the ingredients and who gets to eat it, not caring about the size and shape.
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Aggregation means combining many individual markets into one overall market. Macroeconomic models use abstract concepts like the price level and gross domestic product that are derived by combining many different markets into one. This process is known as aggregation.
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Aggregation
Aggregate supply curve - shows the quantity of domestic product that is supplied at each possible value of the price level. Aggregate Supply describes how much output businesses would willingly produce and sell given prices, costs, and market conditions
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Aggregation
Aggregate demand curve shows the quantity of domestic product that is supplied at each possible value of the price level. Aggregate Demand consists of the total spending in an economy by households, businesses, governments, and foreigners.
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Aggregate demand demand for domestic product. Aggregate supply supply of domestic product.
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Aggregation
But doesnt it matter what stuff is being bought and what stuff is being sold? Isnt it important if we are selling cars or selling cheese? Yes and no
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Aggregation
Clearly we care about the makeup of the economy, but: 1. Exactly what the national output is comprised of doesnt really affect issues of growth, inflation, and unemployment 2. During economic fluctuations, markets tend to move together. When demand in an economy rises, demand for almost all goods rises
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prices.
at common prices. Therefore, real GDP is a far better measure than nominal GDP of changes in total production.
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Disadvantage of Nominal GDP: It changes when prices change even if there is no change in actual production. Example: Assume a hamburger cost $1.50 in 2006. In 2007 it cost $2. In 2006 there were 100 hamburgers, which added $150 to nominal GDP. In 2007 there were 100 hamburgers, added $200 to nominal GDP. Nominal GDP makes it look like there were more hamburgers in 2007, even though there were only 100. So nominal GDP makes it look like there is economic growth, even when there is not. Solution: calculate real GDP or GDP in constant dollars.
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Chinas Inflation
August 2004 inflation rate held steady at 5.3% Producer Prices rose 6.8% Food prices rose 14% Consumer goods rose 6.3% Housing prices rose 6% Service costs rose 2%
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D1 D S D A E P0 S
Price
P0
Price
D1 S D S D
Q0 Quantity (a)
Prof. Rushen Chahal
Inflation. 02/12/12
Quantity (a)
Inflation
AD price level
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Price Level
E B
D0 S D2 Domestic Product
Prof. Rushen Chahal
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AD unemployment Recession = a period of time during which total output falls and therefore jobs are lost
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D0 C
Price Level
S0 S1 D0 Q0 Q1 Domestic Product
Prof. Rushen Chahal
D1
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Economic Growth
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Price Level
A E
S1 S0 Real GDP
Prof. Rushen Chahal
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Price Level
D1 S0 S1 S2 Real GDP
Prof. Rushen Chahal
Copyright 2006 South-Western/Thomson Learning. All rights reserved.
D0
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When recessions are caused by too low aggregate demand, governments can try to increase demand.
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Price Level
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When inflation is caused by too high aggregate demand, governments can try to limit aggregate demand.
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Price Level
E Decrease in prices B
D0 S D2 Real GDP
Prof. Rushen Chahal
Copyright 2006 South-Western/Thomson Learning. All rights reserved.
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P AS
Price Level
E AD Q Real GDP Q
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P1 P
As America entered the Viet Nam War, defense AS spending increased by 55 percent between 1965 and 1968. This increased Aggregate E1 Demand, shifting the AD E ADCurve to the right 1 AD Which resulted in the high inflation that the Q Q1 Q nation experienced Real GDP Between 1966-1981 02/12/12
Price Level
AS1 AS
During the 1970s the industrial world was struck by a supply shock.
P1 P
E1 E AD Q1 Q Real GDP
Crop failures, shifting ocean currents massive speculation on world commodity markets, turmoil in foreig exchange markets, and a MidEast wa that led to a quadrupling (X4) of oil prices marked what was known as the year of seven plagues in 1973
The result was a rapid increase of th costs of materials and fuels, which shifted the Aggregate supply Q curve inward.
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AS1 AS
Price Level
The United States then experienced a period of stagflation, which was indicated by a sharp increase in inflation and a fall in real output.
P1 P
E1 E AD Q1 Q Real GDP
This effect can be illustrated by an inwards shift of the Aggregate Suppl Curve, which increases prices and decreases output
Q
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P AS
P P1
E E1 AD1 AD
Q1 Q Real GDP
Prof. Rushen Chahal
When President Regan took office in 1981, the economy wa experiencing severe inflation, near 10 percent, an unacceptab number. The Chairman of the Federal Reserve, Paul Volcker, influenced interest rates in the so that spending would decrease, and in effect decrease demand in the economy. The result was a decrease in output, and an increase in Q unemployment. The reward was a decrease in inflation.
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Price Level
Price Level
P1 P2 P
During President Clintons first term, the national economy improved remarkably. Busines AS improved, unemployment fell AS1 rapidly, and inflation was stead and low. Economic growth then accelerated even more during his second term.
E AD Q Q1 Q2 Real GDP
AD1
Unemployment dropped to 3.9% and inflation dropped below 2% for Q a brief period How did this happen?
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Price Level
A combined increase of Aggregate Demand as well as an unexpected huge increase AS in Aggregate supply provides AS1 An good explanation. A shift out in AD will increase output as well as prices
P1 P2 P
E AD Q Q1 Q2 Real GDP
shifts out, output can continue to increase while prices do no rise a lot.
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The economic history of the United States (or any country) in the twentieth century can be more easily understood using the AS/AD model. Growth over the past century has been due to both increases in aggregate supply as well as aggregate demand.
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