ECO 102
Macroeconomics
Chapter
3
Aggregate Demand
and
Aggregate Supply
Prof. Dr
.
Magdy
El
-
Shourbagui
Head of the Department of Economics
College of Business & Economics
Misr
University for Science &
Technology
www.magdyel
-
shourbagui.com
1
2
Learning Objectives
Define
the
following
terms
:
aggregate
demand,
aggregate
supply,
economy’s
potential
real
GDP,
and
macroeconomic
equilibrium
.
Distinguish
between
the
aggregate
demand
curve
and
the
aggregate
supply
curve
.
Identify
and
describe
the
reasons
for
downward
slope
of
the
aggregate
demand
curve
.
Identify
and
describe
the
factors
that
shift
the
aggregate
demand
curve
.
Explain
and
illustrate
graphically
the
macroeconomic
equilibrium
in
the
short
run
3
The Meaning of Aggregate Demand
Aggregate
Demand,
AD
is
the
quantity
demanded
of
all
final
goods
and
services
(Real
GDP)
at
different
price
levels
.
AD
can
be
calculated
by
the
following
equation
:
Real GDP = Y = AD = C + I + G + NX
= C + I + G + (X
-
M)
Where
:
C
=
personal
consumption
spending,
I
=
gross
private
domestic
spending,
G
=
government
spending,
NX
=
net
exports
of
goods
and
services,
X
=
exports
of
goods
and
services,
and
M
=
imports
of
goods
and
services
.
4
The Aggregate Demand Curve
The
Aggregate
demand,
AD
curve
is
downward
-
sloping,
specifying
a
negative
relationship
between
the
price
level
as
independent
variable
and
the
quantity
of
real
GDP
demanded
as
dependent
variable
.
5
Reasons for Downward slope of the Aggregate Demand
Curve
1.
The
price
level
and
consumption
(The
Real
wealth
effect
or
the
real
money
balance
effect),
2.
The
price
level
and
investment
(The
interest
rate
effect),
and
3.
The
price
level
and
net
exports
(The
international
trade
effect)
.
6
1
.
The
price
level
and
consumption
(The
Real
wealth
effect
or
the
real
money
balance
effect),
Real
Wealth
is
the
value
of
money
in
bank,
bonds,
stocks,
and
non
-
monetary
assets
people
own
measured
in
terms
of
what
they
will
buy
.
The
price
level
the
real
purchasing
power
of
money
balances
(currency
and
bank
deposits)
and
the
real,
monetary
wealth
real wealth.
consumers feel wealthier
encourages them to spend more
quantity of goods and
services demanded
quantity
demanded
of
Real
GDP
7
2
.
The
Price
Level
and
Investment
(The
Interest
Rate
Effect)
the purchasing
power of
money
money
needed to
buy fixed
bundle of
goods and
services
the domestic
saving
supply of credit
the interest
rate
the banks will
provide more loans
spending on investment
goods by households and
businesses
8
3. The
Price Level and Net Exports (The International
Trade
Effect)
the domestic goods will be
cheaper relative to
foreign goods
Exports (X) and
Imports (M)
Net Exports (NX)
9
A
Change
in
the
Quantity
Demanded
of
the
Real
GDP
:
A
Movement
along
the
Aggregate
Demand
Curve
A change in the quantity demanded of real GDP caused by a change in the price level. It
is shown by a movement along the aggregate demand curve
10
A
Change
in
Aggregate
Demand
:
Shifts
in
the
Aggregate
Demand
Curve
A
Change
in
aggregate
demand
is
the
change
in
the
quantity
demanded
of
real
GDP
as
the
change
in
the
following
factors
:
Consumption,
investment,
government
spending,
and
net
exports
.
These
factors
will
affect
the
quantity
demanded
of
real
GDP
at
any
given
price
level
.
The
aggregate
demand
curve
shifts
,
when
one
of
the
factors
above
changes
.
11
An Increase in Aggregate Demand
An
increase
in
aggregate
demand
is
represented
by
an
outward
shift
of
the
entire
aggregate
demand
curve
.
If
aggregate
demand
increases,
greater
quantities
of
real
GDP
are
demanded
at
each
possible
price
level
for
the
year
.
12
A Decrease
in Aggregate Demand
A
decrease
in
aggregate
demand
is
represented
by
an
inward
shift
of
the
entire
aggregate
demand
curve
.
When
aggregate
demand
decreases,
a
less
quantity
of
real
GDP
is
demanded
at
each
possible
price
level
for
the
year
.
13
Factors that shift the Aggregate Demand Curve
The
aggregate
demand
curve
will
shift
as
a
result
of
changes
in
the
following
:
1.
Consumption
Spending
(C)
;
2.
Investment
Spending
(I)
;
3.
Government
Spending
(G)
;
and
4.
Net
Exports
(NX)
.
The AD curve shifts to the right side when aggregate demand increases. However,
the AD curve shifts to the left side when aggregate demand decreases.
14
1. Consumption Spending (C)
The following factors can cause consumption spending to change:
a) Consumer
Wealth;
b) Personal
Income Taxes; and
c) Expectations
about Future Income, and Inflation.
Factors that shift the Aggregate Demand Curve
a) Consumer
Wealth
Consumer Wealth
consumers feel wealthier
demand for goods
and services
by consumers
aggregate
demand
rightward shift of the
aggregate
demand
curve
Consumption
Spending
( C )
15
Factors that shift the Aggregate Demand Curve
b) Personal Income Taxes
personal income tax
disposable income of households
Consumption
Spending
( C )
aggregate
demand
rightward shift of the
aggregate
demand
curve
16
Factors that shift the Aggregate Demand Curve
c) Expectations
about Future Income, and Inflation
Consumption
Spending
( C )
aggregate
demand
rightward shift of the
aggregate
demand
curve
expected future income
the amount of consumption
goods
that people plan to
buy
today
A increase
in expected inflation
buying goods and services
cheaper
today
Consumption
Spending
( C )
aggregate
demand
rightward shift of the
aggregate
demand
curve
17
Factors that shift the Aggregate Demand Curve
2. Investment Spending (I)
The following factors can cause investment spending to change:
a) Interest
Rates;
b) Corporate
Profits Taxes; and
c) Expectations
about Future Sales.
a) Interest Rates
The
interest rates
borrowing by investors
Investment
Spending
( I )
aggregate
demand
rightward shift of the
aggregate
demand
curve
18
Factors that shift the Aggregate Demand Curve
b) Corporate Profits Taxes
Taxes
on profits of
firms
firms after
-
tax profits
Investment
Spending
( I )
aggregate
demand
rightward shift of the
aggregate
demand
curve
19
Factors that shift the Aggregate Demand Curve
c) Expectations about Future Sales
Expected
future sales
profits expectations
Investment
Spending
( I ) today
aggregate
demand
rightward shift of the
aggregate
demand
curve
20
Factors that shift the Aggregate Demand Curve
3. Government Spending (G)
An
increase
in
government
purchases
of
goods
and
services
increases
aggregate
demand
.
This
shifts
the
aggregate
demand
curve
to
the
right
4. Net Exports (NX)
The following factors can cause net exports to change:
a) Foreign
Real Income; and
b) Foreign
Exchange Rate.
21
Factors that shift the Aggregate Demand Curve
a) Foreign
Real Income
Foreign real income
(Real GDP of foreign countries)
The exports
of the home country
aggregate
demand
rightward shift of the
aggregate
demand
curve
AD = C + I + G + X
-
M
22
b) Foreign Exchange Rate
Factors that shift the Aggregate Demand Curve
Foreign exchange rate
(price of foreign currency )
The
prices of
domestic
goods and services
relative
to foreign goods
and services
Exports and
Imports
Net
exports
aggregate
demand
rightward shift of the
aggregate
demand
curve
23
The Meaning of Aggregate Supply
Aggregate
supply,
AS
is
the
quantity
supplied
of
all
final
goods
and
services
(Real
GDP)
at
different
price
levels
.
)
.
This
is
represented
by
the
aggregate
production
function
:
Y = f (N, K, L, T
)
Where:
Y =
The aggregate supply
(Real GDP);
f = depends on;
N = Labor;
K = Capital;
L = Land;
T = The State of Technology.
24
The short
-
Run Aggregate Supply Curve
The
Short
-
Run
Aggregate
Supply,
SRAS
curve
is
upward
-
sloping,
specifying
a
positive
relationship
between
the
price
level
as
independent
variable
and
the
quantity
supplied
of
real
GDP
as
dependent
variable
.
25
3.2.2.2 The
Long
-
Run Aggregate Supply
Curve
Page 75
till
Figure
3.11: A Change in Aggregate Supply
in the Short
-
Run: Shifts of the Short
-
Run
Aggregate Supply
Curve
page 81
and
3.3.2 Long
-
Run Macroeconomic
Equilibrium
page 82
Read
pages
75
till
81
26
1 Short
-
Run macroeconomic Equilibrium
When
the
quantity
demanded
of
real
GDP
equals
the
quantity
supplied
of
real
GDP,
the
Short
-
Run
macroeconomic
equilibrium
occurs
The
short
-
run
equilibrium
point
(n)
is
the
interaction
of
the
AD
curve
and
SRAS
curve
.
This
intersection
determines
the
equilibrium
price
level
(
P
e
)
and
the
equilibrium
real
GDP
(Y
e
)
.
27
28
29
30
31
32
33
34
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