SECTION ONE:
This question is from the material you learned in chapter 8.
a) Please complete the table I have provided in trillion
dollars . The mps =0.2
DI (t)
C (t)
S (t)
$0
2
2
4
6
8
10
12
14
b) What is the dollar value of autonomous consumption?
c) What is the value of the mpc? Show.
d) What value shows equilibrium (cf crosses 45 degree line)?
e) Draw a consumption function diagram showing equilibrium. Type
equilibrium numbers.
f) Draw a saving function showing equilibrium. Type equil. Number
g) Find and show the value of the multiplier.
h) Now, assume $1t of autonomous investment spending occurs. What is the
new equilibrium value? EXPLAIN.
SECTION TWO:
A. Calculate (approximately) how many years it will take for real GDP
to double in each of the following cases.
i. The growth rate of China is 8%
ii. The growth rate of Brazil is 5%
B. In the following question (Be sure to label all diagrams
appropriately for full credit) TYPE answers.
i. Draw a supply and demand diagram of the labor market. Assume
that immigration laws are relaxed causing immigrants to flow in to
the country. Add to drawing. Label everything.
ii. Further, draw a diagram of the production function. Show on
the diagrams what will happen to Real GDP as a result of the
immigration policy. Show on the production function.
Production function should show relationship of labor to
output. (Be sure to label the diagram appropriately for full
credit).
iii. Explain in words what your diagrams show. Here you will
TYPE your explanation of the two curves. Credit for the above
two parts will not be given without this inclusion.
C. All at once the technology of the internet and cell phones are
introduced to a developing country.
i. Show this impact on the production function. (Draw a before
and after on the same graph). Discuss in words (typed).
ii. What will happen to productivity when the new technology is
introduced? What do we use to show that productivity has
gone up? Explain, in words, what is meant by an increase in
productivity.
SLIDES CREATED BY ERIC CHIANG
PORTLAND PRESS HERALD / GETTY IMAGES
19
Aggregate Expenditures
CHAPTER 19
SLIDE 1
CHAPTER OBJECTIVES
Name the components of aggregate spending.
Analyze the relationship between consumption
and income using a basic aggregate
expenditures graph.
Analyze consumption and saving using
marginal propensity to consume (MPC) and
marginal propensity to save (MPS).
Describe the determinants of consumption,
saving, and investment.
Determine macroeconomic equilibrium in the
simple aggregate expenditures model of the
private domestic economy.
CHAPTER 19
SLIDE 2
CHAPTER OBJECTIVES
Explain the multiplier process, how it is
computed, and why it operates in both
directions.
Describe macroeconomic equilibrium in the
full aggregate expenditures model when
government and the foreign sectors are
added.
Explain why, at equilibrium, injections equal
withdrawals in the economy.
Describe the differences between
recessionary and inflationary gaps.
CHAPTER 19
SLIDE 3
CHAPTER 19
SLIDE 4
MOLIMA/DREAMSTIME.COM
THE CLASSICAL MODEL
Pre-1930s mainstream economic
thought argued that:
a laissez-faire (leave it alone)
approach was best for the economy.
the economy was self-correcting; it
always adjusted to full employment
by the forces of demand and supply.
prices, wages, and interest rates
were flexible.
CHAPTER 19
SLIDE 5
THE GREAT DEPRESSION
The prolonged downturn challenged
the classical perspective:
John Maynard Keynes argued that
government has an important role in
stabilizing a distressed economy.
Keynesians argued that prices and
wages were sticky, or slow to adjust.
Keynes published The General
Theory… in 1936.
CHAPTER 19
SLIDE 6
JOHN MAYNARD KEYNES (1883–1946)
Known as the father of
macroeconomics.
Launched a critique of
classical economics by
focusing on spending as
the key to growth.
His writings still
influence economic
policy (e.g., stimulus
policies).
CHAPTER 19
SLIDE 7
AGGREGATE EXPENDITURES
Consist of the components of GDP
that are measured by spending:
GDP = AE = C + I + G + (X − M)
Consumption (C) is the largest
component, representing nearly 70%
of GDP. Consumption is the key
factor in the AE model.
CHAPTER 19
SLIDE 8
YURI ARCURS/AGE FOTOSTOCK
CONSUMPTION IS THE PORTION OF INCOME
NOT SAVED: INCOME = C + S.
CHAPTER 19
SLIDE 9
KEYNESIAN CONSUMPTION FUNCTION
CONSUMPTION (thousands)
6
Y=C+S
C
5
4
a
3
Saving is negative
to the left of point a
and positive to the
right of point a.
2
1
1
2
3
4
5
6
INCOME (thousands)
CHAPTER 19
SLIDE 10
KEYNESIAN CONSUMPTION FUNCTION
Consumption spending grows as
income grows but not as fast.
As income rises, savings rise as a
percentage of income.
Classical economists believe that
interest rates determine saving,
while Keynesians believe that
income determines saving.
CHAPTER 19
SLIDE 11
AVERAGE PROPENSITY TO
CONSUME (APC) AND SAVE (APS)
APC
APS
PERCENTAGE OF
INCOME THAT IS
USED FOR
CONSUMPTION
(C / Y)
PERCENTAGE OF
INCOME THAT IS
SAVED
(S / Y)
Because Y = C + S, APC + APS = 1.
CHAPTER 19
SLIDE 12
MARGINAL PROPENSITY TO
CONSUME (MPC) AND SAVE (MPS)
MPC
THE CHANGE IN
CONSUMPTION
GIVEN A
CHANGE IN
INCOME (ΔC/ΔY)
MPS
THE CHANGE IN
SAVING GIVEN A
CHANGE IN
INCOME (ΔS/ΔY)
Because Y = C + S, MPC + MPS = 1
CHAPTER 19
SLIDE 13
OTHER DETERMINANTS OF CONSUMPTION
Income is the principal determinant
of consumption and saving, but
other factors can shift the
consumption and saving schedules:
Wealth
Expectations about future prices
and income
Household debt
Taxes
CHAPTER 19
SLIDE 14
FRENC/DREAMSTIME.COM
INVESTMENT IS SPENDING BY BUSINESSES
THAT ADDS TO THE PRODUCTIVE
CAPACITY OF THE ECONOMY.
CHAPTER 19
SLIDE 15
THE INSTABILITY OF INVESTMENT
Gross private domestic investment is much more
volatile than consumption spending.
CHAPTER 19
SLIDE 16
INVESTMENT DEMAND
Investment levels depend
primarily on the rate of return on
capital.
Investments earning a high rate of return
are those undertaken first.
Interest rates also affect
investment because most
business investment is financed.
As interest rates fall, investment rises.
CHAPTER 19
SLIDE 17
OTHER DETERMINANTS OF INVESTMENT
Investment demand also depends
on:
expectations about future
revenues and return on
investment.
technological change.
operating costs.
capital goods on hand.
CHAPTER 19
SLIDE 18
INVESTMENT SPENDING (I)
AGGREGATE INVESTMENT SCHEDULE
Investment spending is
autonomous
(independent) of income.
I
I0
1
2
3
4
5
6
INCOME (Y)
CHAPTER 19
SLIDE 19
SIMPLE AGGREGATE EXPENDITURES MODEL
Leaving out the government and foreign
sectors, we ask the following questions:
WHAT IS THE MACROECONOMIC
EQUILIBRIUM?
WHAT CHANGES THE
EQUILIBRIUM?
HOW MUCH WILL THE ECONOMY
PRODUCE?
CHAPTER 19
SLIDE 20
THE TWO COMPONENTS IN THE
SIMPLE AE MODEL (AE = C + I)
CONSUMPTION
ALMOST 70% OF AGGREGATE
SPENDING: LARGE AND STABLE
INVESTMENT
ABOUT 15% OF AGGREGATE
SPENDING: VOLATILE AND
SENSITIVE TO ECONOMIC
CONDITIONS
CHAPTER 19
SLIDE 21
SAVING & INVESTMENT
AGGREGATE EXPENDITURES
SIMPLE AGGREGATE EXPENDITURES MODEL
Y = AE
AE = C + I0
C
5,500
5,000
e
4,500
f
4,000
a
3,500
3,000
500
3,500
4,000
4,500
5,000
S
250
e
100
I0
a
0
3,500
4,000
4,500
5,000
Point a in both
panels represents
zero saving
(income equals
consumption). If
AE rises by $100,
equilibrium income
rises by $400,
where S = I.
INCOME (Y)
CHAPTER 19
SLIDE 22
MACROECONOMIC EQUILIBRIUM
The economy is at equilibrium where
injections of spending (investment)
equal withdrawals (saving), or:
I=S
At this point, there is no reason for
the economy to change its level of
output or income.
CHAPTER 19
SLIDE 23
CHAPTER 19
SLIDE 24
THE MULTIPLIER EFFECT
Occurs when an initial amount of
spending causes income to grow
by a larger amount
The multiplier is calculated as:
1 / (1 − MPC)
The greater the MPC, the higher
the spending multiplier.
CHAPTER 19
SLIDE 25
MULTIPLIER IN ACTION (MPC = 0.8)
$100 CASH
SPEND
SAVE
$80
SPEND
$64
SPEND
SAVE
$51.20 $12.80
$20
SAVE
$16
AND SO ON…
CHAPTER 19
SLIDE 26
THE MULTIPLIER EFFECT
The total potential effect on
income equals the initial change
in spending times the multiplier.
When MPC = 0.8, the potential
increase in income from a $100
increase in spending is $100 5
= $500. Saving will also increase
by $100.
CHAPTER 19
SLIDE 27
SAVING AND INVESTMENT
SAVING AND INVESTMENT
S
b
200
I1 = 100
e
I0 = 100
100
0
−100
−200
3.6
4.0
4.4
4.8
5.2
INCOME (thousands)
An increase in investment of $100
creates more than a $100 increase in
income. In this case, $100 turns into a
$400 rise in income (from point e to b).
CHAPTER 19
SLIDE 28
IMAGE SOURCE/CORBIS
THE SPENDING MULTIPLIER ALLOWS US TO
DETERMINE HOW MUCH SPENDING IS NEEDED
TO BOOST INCOME TO A SPECIFIC LEVEL.
CHAPTER 19
SLIDE 29
THE MULTIPLIER WORKS IN BOTH DIRECTIONS
A decrease in spending during an
economic downturn can cause a
larger drop in income.
If consumers increase their saving
during a recession, they may
inadvertently make the recession
worse because of the multiplier.
CHAPTER 19
SLIDE 30
CONSUMPTION AND SAVING DURING
THE 2007–2009 RECESSION
CHAPTER 19
SLIDE 31
KOOBOOKI/THINKSTOCK
PARADOX OF THRIFT: IF HOUSEHOLDS SAVE
MORE, THE MULTIPLIER EFFECT LEADS TO
REDUCED INCOME, LEADING TO LESS SAVING.
CHAPTER 19
SLIDE 32
XIYE/DREAMSTIME.COM
THE FULL AGGREGATE EXPENDITURES MODEL
TAKES ALL SPENDING COMPONENTS INTO
ACCOUNT: C + I + G + (X − M)
CHAPTER 19
SLIDE 33
SPENDING INJECTIONS
INJECTIONS INCLUDE INVESTMENT (I),
GOVERNMENT SPENDING (G), AND
EXPORTS (X).
SPENDING WITHDRAWALS
WITHDRAWALS INCLUDE SAVINGS (S),
TAXES (T), AND IMPORTS (M).
In a macroeconomic equilibrium:
I+G+X=S+T+M
CHAPTER 19
SLIDE 34
SAVING, INVESTMENT, GOVERNMENT SPENDING
SAVING, INVESTMENT, AND
GOVERNMENT SPENDING
S
b
200
I+G
e
I
100
0
−100
−200
3.6
4.0
4.4
4.8
5.2
INCOME (thousands)
An increase of $100 in government
spending has the same effect on
income as an increase in investment.
Both are injections to the economy.
CHAPTER 19
SLIDE 35
SAVING, INVESTMENT, GOVERNMENT SPENDING
SAVING, INVESTMENT, GOVERNMENT
SPENDING, AND TAXES
S+T
S
g
I+G
200
b
e
I
100
0
−100
−200
3.6
4.0
4.4
4.8
5.2
INCOME (thousands)
Taxes have less direct impact on income than
an equivalent change in government spending
because some of a tax is paid using savings,
both of which are withdrawals.
CHAPTER 19
SLIDE 36
THE BALANCED BUDGET MULTIPLIER
Equal changes in government
spending and taxation lead to an
equal change in income.
If a $1 billion increase in spending
is financed by a $1 billion tax
increase, GDP rises $1 billion
regardless of the MPC.
THE BALANCED BUDGET
MULTIPLIER IS ALWAYS 1.
CHAPTER 19
SLIDE 37
ERIC CHIANG
THE FOREIGN SECTOR IN THE KEYNESIAN
MODEL IS ADDED THROUGH NET EXPORTS:
EXPORTS MINUS IMPORTS (X − M).
CHAPTER 19
SLIDE 38
SAVING, INVESTMENT, GOVERNMENT SPENDING
SAVING, INVESTMENT, GOVERNMENT
SPENDING, AND NET EXPORTS
S
c
300
b
200
I+G
e
I
100
0
−100
−200
3.6
4.0
4.4
I + G + (X − M)
4.8
5.2
INCOME (thousands)
If exports exceed imports, AE rises and
equilibrium income rises. If imports exceed
exports, AE falls and equilibrium income falls.
CHAPTER 19
SLIDE 39
RECESSIONARY GAP
THE INCREASE IN AGGREGATE
SPENDING NECESSARY TO BRING A
DEPRESSED ECONOMY BACK TO
FULL EMPLOYMENT
This is not the total deficiency in GDP,
which is called the GDP gap. The
recessionary gap is the spending
needed to close the GDP gap when
boosted by the multiplier.
CHAPTER 19
SLIDE 40
INFLATIONARY GAP
THE DECREASE IN AGGREGATE
SPENDING NECESSARY TO BRING
AN OVERHEATED ECONOMY BACK
TO FULL EMPLOYMENT
Inflationary pressures occur when an
economy produces output above full
employment. Excess spending results
in higher prices, which can lead to other
economic problems.
CHAPTER 19
SLIDE 41
THE GREAT DEPRESSION
At the height of the Great
Depression, unemployment was
25% and the stock market fell 85%.
Keynes argued for a significant
increase in government spending.
In the early 1940s, government
spending rose 10 times for WWII,
and the Great Depression ended.
CHAPTER 19
SLIDE 42
KEY CONCEPTS
•
•
•
•
•
•
•
•
Aggregate expenditures
Consumption
Saving
Average propensity to
consume
Average propensity to
save
Marginal propensity to
consume
Marginal propensity to
save
Investment
• Keynesian
macroeconomic
equilibrium
• Injections
• Withdrawals
• Multiplier
• Paradox of thrift
• Balanced budget
multiplier
• Recessionary gap
• Inflationary gap
CHAPTER 19
SLIDE 43
IF THE MPC = 0.8 AND INCOME RISES BY
$5,000, WHAT IS THE INCREASE IN
CONSUMPTION?
A
$625
B
$1,000
C
$4,000
D
$5,000
E
$6,250
CHAPTER 19
SLIDE 44
SUE ASHE/SHUTTERSTOCK
PRACTICE
QUESTION
EXPLAIN HOW THE RECOVERY IN NEW
HOUSING CONSTRUCTION WILL AFFECT
THE ECONOMY AS A RESULT OF THE
MULTIPLIER EFFECT.
CHAPTER 19
SLIDE 45
WHICH OF THE FOLLOWING STATEMENTS
CONCERNING CONSUMPTION IS INCORRECT?
A
WEALTHY PEOPLE CONSUME
MORE THAN OTHER PEOPLE.
B
EXPECTATIONS ABOUT FUTURE
PRICES AFFECT CONSUMPTION.
C
TAX INCREASES REDUCE
CONSUMPTION.
D
SAVINGS RATES DECREASE AS
INCOME INCREASES.
CHAPTER 19
SLIDE 46
WHAT WAS THE RATIONALE FOR CONGRESS
AND THE PRESIDENT TO PASS A HUGE STIMULUS
(SPENDING) PACKAGE IN 2009?
CHAPTER 19
SLIDE 47
OLIVIER LE QUEINEC/DREAMSTIME.COM
PRACTICE
QUESTION
IF THE MULTIPLIER IS 4, GOVERNMENT SPENDING
RISES BY $200, AND TAXES INCREASE BY $200,
EQUILIBRIUM INCOME WILL:
A
FALL BY $200.
B
FALL BY LESS THAN $200.
C
NOT CHANGE.
D
RISE BY $200.
E
RISE BY MORE THAN
$200.
CHAPTER 19
SLIDE 48
END OF CHAPTER
SLIDES CREATED BY ERIC CHIANG
19
Tshooter/Shutterstock; Anton Balazh/Shutterstock
CHAPTER 19
SLIDE 49
SLIDES CREATED BY ERIC CHIANG
SUBBOTINA/DREAMSTIME.COM
20
Aggregate Demand
and Supply
CHAPTER 20
SLIDE 1
CHAPTER OBJECTIVES
Explain what an aggregate demand curve
is and what it represents.
Describe why the aggregate demand curve
has a negative slope due to the wealth,
export, and interest rate effects.
List the determinants of aggregate
demand.
Analyze the aggregate supply curve and
differentiate between the short run and
long run.
CHAPTER 20
SLIDE 2
CHAPTER OBJECTIVES
Describe the determinants of an
aggregate supply curve.
Use AD/AS analysis to illustrate long-run
and short-run macroeconomic equilibrium.
Define the multiplier and describe why it is
important.
Describe demand-pull and cost-push
inflation.
CHAPTER 20
SLIDE 3
ORIGINS OF MACROECONOMICS
John Maynard Keynes originated
macroeconomic theory. At that time:
industrial capacity was unused.
unemployment was high.
businesses were not investing.
In that situation, it was possible to
expand output and employment by
generating productive activity.
CHAPTER 20
SLIDE 4
SEAN PAVONE/ALAMY
THE AGGREGATE DEMAND CURVE SHOWS THE
OUTPUT OF GOODS AND SERVICES (REAL GDP)
DEMANDED AT DIFFERENT PRICE LEVELS.
CHAPTER 20
SLIDE 5
AGGREGATE PRICE LEVEL (P)
AGGREGATE DEMAND
A higher aggregate price causes
lower aggregate output.
P1
Aggregate demand
slopes down
because of the
wealth effect, export
price effect, and
a
interest rate effect.
b
P0
AD0
0
Q1
Q0
AGGREGATE OUTPUT (Q)
CHAPTER 20
SLIDE 6
AGGREGATE DEMAND
Wealth effect: As prices rise, purchasing
power of wealth falls, reducing
consumption.
Export price effect: As prices rise, exports
become more expensive, and exports
drop.
Interest rate effect: As prices rise, people
hold more money, pushing interest rates
higher, reducing business investment.
CHAPTER 20
SLIDE 7
DETERMINANTS OF AGGREGATE DEMAND
The determinants of aggregate
demand are factors that shift the
entire AD curve when they change:
Consumption
Investment
Government spending
Net exports
CHAPTER 20
SLIDE 8
AGGREGATE PRICE LEVEL (P)
SHIFTS IN AGGREGATE DEMAND
P1
A factor that
shifts
aggregate
demand to the
right will
increase output
at every price
level.
b
a
P0
AD1
AD0
0
Q1
Q0
Q2
AGGREGATE OUTPUT (Q)
CHAPTER 20
SLIDE 9
LEE SNIDER/DREAMSTIME.COM
CONSUMER SPENDING IS AFFECTED BY FOUR
MAJOR FACTORS BESIDES INCOME: WEALTH,
CONSUMER CONFIDENCE, DEBT, AND TAXES.
CHAPTER 20
SLIDE 10
CHAPTER 20
SLIDE 11
ISTOCKPHOTO/THINKSTOCK
INVESTMENT IS DETERMINED BY INTEREST
RATES, EXPECTED RATE OF RETURN ON
INVESTMENT, AND BUSINESS EXPECTATIONS.
US NAVY PHOTO/ALAMY
GOVERNMENT SPENDING IS DETERMINED BY
FEDERAL, STATE, AND LOCAL LAWMAKERS.
CHAPTER 20
SLIDE 12
ERIC CHIANG
NET EXPORTS ARE DETERMINED PRIMARILY BY
FOREIGN INCOME AND EXCHANGE RATES.
CHAPTER 20
SLIDE 13
SUMMARY OF AGGREGATE DEMAND
CHAPTER 20
SLIDE 14
CHAPTER 20
SLIDE 15
ZUMA PRESS, INC/ALAMY
THE AGGREGATE SUPPLY CURVE SHOWS
THE REAL GDP THAT FIRMS WILL PRODUCE
AT VARYING PRICE LEVELS.
LONG-RUN AGGREGATE SUPPLY
In the long run, the aggregate supply
curve is vertical.
This incorporates the approach of
classical economic analysis, which
assumed that all variables are
adjustable in the long run.
In the long run, the economy will
gravitate toward full employment.
CHAPTER 20
SLIDE 16
LONG-RUN AGGREGATE SUPPLY
AGGREGATE PRICE LEVEL (P)
LRAS0 LRAS1
A shift in the
long-run
aggregate
supply curve
moves the
economy to a
new long-run
equilibrium
output.
0
Q0
Q1
AGGREGATE OUTPUT (Q)
CHAPTER 20
SLIDE 17
SHIFTING THE LRAS CURVE
The position of the LRAS curve
depends on the economy’s capacity:
Amount of available resources
The quality of the labor force
Available technology
Full employment occurs at the
natural rate of unemployment.
CHAPTER 20
SLIDE 18
SHIFTING THE LRAS CURVE
Rightward shifts in LRAS occur when:
technology improves: automation,
digitalization.
labor quality is enhanced; more people
pursue higher education.
trade and globalization increase.
Shifts of the LRAS curve take time.
CHAPTER 20
SLIDE 19
SHORT-RUN AGGREGATE SUPPLY
In the short run, the aggregate
supply curve is upward sloping.
Some input prices (such as wages) are
slow to change; they are sticky.
When prices rise but input prices are
sticky, profits increase and firms
produce more, resulting in a short-run
increase in aggregate output.
CHAPTER 20
SLIDE 20
SHORT-RUN AGGREGATE SUPPLY
AGGREGATE PRICE LEVEL (P)
SRAS
SRAS is
positively sloped
because input
costs are slow to
change. (They
are sticky.)
0
AGGREGATE OUTPUT (Q)
CHAPTER 20
SLIDE 21
DETERMINANTS OF SRAS
The determinants of the short-run
aggregate supply curve are:
changes in input prices.
technology and productivity.
taxes and regulation.
market power of firms.
inflationary expectations.
CHAPTER 20
SLIDE 22
AGGREGATE PRICE LEVEL (P)
SHIFTS OF THE SRAS CURVE
SRAS0 SRAS1
P0
0
a
b
Q0
Q1
A factor that
shifts SRAS to
the right will
increase
aggregate
output at every
price level.
AGGREGATE OUTPUT (Q)
CHAPTER 20
SLIDE 23
IMAGINECHINA/CORBIS
A LARGE RISE IN COPPER PRICES FROM
2006 TO 2012 CONTRIBUTED TO A
DECREASE IN AGGREGATE SUPPLY.
CHAPTER 20
SLIDE 24
LOU LINWEI/ALAMY
RISING PRODUCTIVITY INCREASES
PROFITS AND INCREASES SHORT-RUN
AGGREGATE SUPPLY.
CHAPTER 20
SLIDE 25
TAXES AND REGULATION
ADD TO THE COSTS OF BUSINESS,
CAUSING A DECREASE IN THE
SRAS CURVE.
CHAPTER 20
SLIDE 26
CHAPTER 20
SLIDE 27
ERIC CHIANG
AS INDUSTRIES BECOME MORE
CONCENTRATED (FIRMS HAVE MORE
MARKET POWER), SRAS DECREASES.
MARIO TAMA/GETTY IMAGES
HIGHER INFLATION EXPECTATIONS BY
BUSINESSES, WORKERS, OR CONSUMERS
WILL DECREASE SRAS.
CHAPTER 20
SLIDE 28
SUMMARY OF SHORT-RUN AGGREGATE SUPPLY
CHAPTER 20
SLIDE 29
MACROECONOMIC EQUILIBRIUM
AGGREGATE PRICE LEVEL (P)
LRAS
Pe
SRAS
e
AD
0
Short-run
macroeconomic
equilibrium occurs
where AD and
SRAS intersect.
Long-run
macroeconomic
equilibrium occurs
where AD and
LRAS intersect.
Qf
AGGREGATE OUTPUT (Q)
CHAPTER 20
SLIDE 30
THE SPENDING MULTIPLIER
The multiplier magnifies new spending
into higher income and output: Each
round of spending becomes income to
someone else.
MULTIPLIER = 1 / (1 − MPC)
EXAMPLE: MPC = 0.6
Multiplier = 1 / (1 − 0.6) = 2.5
A $100 increase in new spending
generates $250 in aggregate output.
CHAPTER 20
SLIDE 31
THE MULTIPLIER AND AD/AS
AGGREGATE PRICE LEVEL (P)
LRAS
P1
P0
SRAS
a
e
AD1
When short run
equilibrium is below
full employment…
…the spending
multiplier magnifies
new spending,
shifting AD toward
long-run
equilibrium.
AD0
0
Q0 Qf
AGGREGATE OUTPUT (Q)
CHAPTER 20
SLIDE 32
THE GREAT DEPRESSION, 1929–1933
During the Great Depression, shortrun equilibrium output was far below
full employment.
Real GDP fell by nearly 40%.
Unemployment reached 25%.
AD shifted far to the left.
It took a sharp rise in government
spending on World War II to shift AD
back to long-run equilibrium.
CHAPTER 20
SLIDE 33
THE GREAT DEPRESSION, 1929–1933
CHAPTER 20
SLIDE 34
DEMAND-PULL INFLATION
SRAS1
AGGREGATE PRICE LEVEL (P)
LRAS
SRAS0
P2
a
P1
e
P0
AD1
AD0
0
Qf
A positive demand
shock expands the
economy beyond
full employment
output.
Rising input prices
eventually push
SRAS to the left,
back to long-run
equilibrium but at a
higher price level.
Q1
AGGREGATE OUTPUT (Q)
CHAPTER 20
SLIDE 35
DEMAND-PULL INFLATION
UNITED STATES IN THE 1960s
The Vietnam conflict expanded aggregate demand
and induced inflation as the economy approached
full employment in 1969.
JAPAN FROM 1985 TO 1995
Japan enjoyed a huge trade surplus, which
expanded the economy. Interest rates were kept
low, which fueled a real estate and stock bubble,
escalating the inflation rate.
CHAPTER 20
SLIDE 36
DEMAND-PULL INFLATION: U.S. AND JAPAN
Sharp increases in aggregate demand led to demandpull inflation in the 1960s in the United States and
between 1985 and 1995 in Japan.
CHAPTER 20
SLIDE 37
COST-PUSH INFLATION
SRAS1
AGGREGATE PRICE LEVEL (P)
LRAS
SRAS0
P2
P1
b
e
P0
AD1
AD0
0
Q1
Qf
A negative supply
shock reduces
output and raises
prices.
Increasing AD will
push output back to
full employment but
at even higher
prices. Alternatively,
decreasing AD will
reduce inflation but
increase
unemployment.
AGGREGATE OUTPUT (Q)
CHAPTER 20
SLIDE 38
BILL PIERCE/TIME & LIFE PICTURES/GETTY IMAGES
THE 1973–1975 OIL SHOCK CAUSED
LONG LINES, HIGHER PRICES, AND A
SHIFT OF THE SRAS CURVE TO THE LEFT.
CHAPTER 20
SLIDE 39
COST-PUSH INFLATION IN THE 1970s
CHAPTER 20
SLIDE 40
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KEY CONCEPTS
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Aggregate demand
Wealth effect
Aggregate supply
Long-run aggregate supply
(LRAS) curve
Short-run aggregate supply
(SRAS) curve
Macroeconomic equilibrium
Multiplier
Marginal propensity to
consume
Marginal propensity to save
Demand-pull inflation
Cost-push inflation
CHAPTER 20
SLIDE 41
WHICH OF THE FOLLOWING DOES NOT OCCUR
WHEN AGGREGATE PRICE FALLS?
A
INTEREST RATES FALL.
B
PURCHASING POWER RISES.
C
VALUE OF MONEY ASSETS FALLS.
D
EXPORTS RISE.
E
AGGREGATE OUTPUT
INCREASES.
CHAPTER 20
SLIDE 42
GUNOLD BRUNBAUER/DREAMSTIME.COM
PRACTICE
QUESTION
HOW MIGHT A LOCAL CRAFT MARKET
GENERATE A LARGER EFFECT ON OUTPUT
IN THE CITY THAN A LARGE RETAILER?
CHAPTER 20
SLIDE 43
WHICH OF THE FOLLOWING WOULD SHIFT THE
SHORT-RUN AGGREGATE SUPPLY CURVE TO THE
RIGHT?
A
A SPIKE IN INPUT PRICES
B
AN INCREASE IN TAXES
C
HIGHER INTEREST RATES
D
A RISE IN PRODUCTIVITY
E
INCREASED REGULATION
CHAPTER 20
SLIDE 44
CHAPTER 20
SLIDE 45
ERIC CHIANG
PRACTICE
QUESTION
ABUNDANT SNOWFALL AND
RISING INCOMES HAVE LED TO
RECORD SKI INDUSTRY INCOME.
HOW DOES THIS AFFECT THE
MACROECONOMY?
IF AN ECONOMY IS OPERATING ABOVE FULL
EMPLOYMENT, WHAT IS LIKELY TO HAPPEN IN
THE LONG RUN?
A
INPUT PRICES AND WAGES RISE;
SRAS SHIFTS TO THE LEFT.
B
INPUT PRICES AND WAGES RISE;
SRAS SHIFTS TO THE RIGHT.
C
INPUT PRICES AND WAGES FALL;
SRAS SHIFTS TO THE LEFT.
D
INPUT PRICES AND WAGES FALL;
SRAS SHIFTS TO THE RIGHT.
CHAPTER 20
SLIDE 46
END OF CHAPTER
SLIDES CREATED BY ERIC CHIANG
20
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CHAPTER 20
SLIDE 47
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