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| Question | Answer |
| Quantity of Real GDP Supplied | the total quantity that firms plan to produce during a given period |
| Aggregate Supply | the real relationship between the quantity of real GDP supplied and the price level |
| Long-Run Aggregate Supply | period of time when wages, prices of other factors of production, potential GDP can vary |
| Short-Run Aggregate Supply | period of time when wages, prices of other factors of production, potential GDP are fixed |
| Short-Run Aggregate Supply (SRAS) | the relationship between the quantity of real GDP supplied and the price level when the money wage rate, the prices of other resources and potential GDP remain constant |
| Long-Run Aggregate Supply (LRAS) | the relationship between the quantity of real GDP supplied and the price level when wages and prices of other inputs are variable, and real GDP = potential GDP |
| In the long run, real GDP ______ potential GDP | In the long run, real GDP = potential GDP |
| Why does aggregate supply equal potential GDP in the long run? | • If GDP is greater than potential GDP, you must hire the structurally/frictionally unemployed or make people work overtime • Cannot sustain this without paying higher wages • Wages will drift up, firms will start to produce less |
| When potential GDP increases, both the LRAS and the SRAS curves shift _______ | When potential GDP increases, both the LRAS and the SRAS curves shift rightward |
| If the full-employment quantity of labour changes, the quantity of capital (physical or human) changes, or technology advances, the LRAS and SRAS curves shift ________ | If the full-employment quantity of labour changes, the quantity of capital (physical or human) changes, or technology advances, the LRAS and SRAS curves shift rightward |
| if there is a rise in the wage rate, the LRAS and SRAS curves shift ________ | if there is a rise in the wage rate, SRAS curve shift leftward and there is no effect on the LRAS curve |
| Quantity of real GDP demanded (Y) | the total amount of final goods and services produced in a country that people, businesses, governments, and foreigners plan to buy |
| Aggregate demand curve (AD) | the relationship between the quantity of real GDP demanded and the price level |
| The AD curve slopes downward for two main reasons | • Wealth effects • Substitution effects |
| Wealth Effect | • If prices increase, other things equal, real wealth falls (value of money, stocks, etc.) • To restore real wealth, people increase saving and decrease spending • The quantity of real GDP demanded decreases |
| Intertemporal substitution effect | • A rise in the price level decreases the value of money and raises interest rates o At higher prices, people need more money o An increase in money demand increases its price o Higher interest rates increase saving, reduce spending • A fall in the price level increases the real value of money and lowers the interest rate |
| International substitution effect | • A rise in the price level increases the price of domestic goods relative to foreign goods o We view imports as relatively cheaper o Foreigners view our exports are relatively more expensive o Imports increase and exports decrease, which decreases the quantity of real GDP demanded • The reverse happens for a fall in the price level |
| Aggregate Demand Curve | the set of equilibrium points from the short-run Keynesian model at various price levels |
| The main influences on aggregate demand are | • Expectations • Fiscal policy and monetary policy • The world economy |
| Expectations | • Increases in expected future income increase people’s consumption today and increases aggregate demand • A rise in the expected inflations rate makes buying goods cheaper today and increase aggregate demand • An increase in expected future profits boots firms’ investment, which increases aggregate demand |
| Fiscal Policy | the government’s attempt to influence the economy by setting and changing taxes, making transfer payments, and purchasing goods and services |
| Monetary Policy | changes in interest rates and the quantity of money in the economy |
| Fiscal Policy and Monetary Policy | • A tax cut or an increase in transfer payments increases households’ disposable income • An increase in disposable income increases consumption expenditure and increases aggregate demand • Government expenditure on goods and services is one component of aggregate demand o An increase in government expenditure increases aggregate demand • An increase in the quantity of money reduces interest rates • A cut in interest rates increases expenditure and increases aggregate demand |
| The World Economy | 1. A fall in the foreign exchange rate (price of $CAD in terms of foreign currency) lowers the price of domestic goods and services relative to foreign goods and services a. Increases exports, decreases imports, and increases aggregate demand 2. An increase in foreign income increases the demand for Canadian exports and increases aggregate demand |
| An increase in Aggregate Demand shifts the curve _____ | An increase in Aggregate Demand shifts the curve right |
| Aggregate Demand Increases If | o Expected future income, inflation, or profit increases o Fiscal policy increases government expenditure, decreases taxes, or increases transfer payments o Monetary policy increases the quantity of money and decreases interest rates o The exchange rate decrease or foreign income increases |
| An decrease in Aggregate Demand shifts the curve _____ | An decrease in Aggregate Demand shifts the curve left |
| Aggregate Demand Decreases If | o Expected future income, inflation, or profits decreases o Fiscal policy decreases government expenditure, increases taxes, or decreases transfer payments o Monetary policy decreases the quantity of money and increases interest rates o The exchange rates increases or foreign income decreases |
| Short-Run Macroeconomic Equilibrium | occurs when the quantity of real GDP demanded equals the quantity of real GDP supplied at the point of intersection of the AD curve and the SRAS curve |
| If real GDP is below equilibrium GDP, firms ______ production and _____ prices | If real GDP is below equilibrium GDP, firms increase production and raise prices |
| If real GDP is above equilibrium GDP, firms ______ production and _______ prices | If real GDP is above equilibrium GDP, firms decrease production and lower prices |
| In short-run equilibrium, real GDP can be ______ potential GDP | In short-run equilibrium, real GDP can be greater than or less than potential GDP |
| Long-Run Macroeconomic Equilibrium | occurs when real GDP equals potential GDP – when the economy is on its LRAS curve |
| Long-run equilibrium occurs at the _____ of the AD, SRAS, and LRAS curves | Long-run equilibrium occurs at the intersection of the AD, SRAS, and LRAS curves |
| If the quantity of labour grows, capital is accumulated, or technology advances, potential GDP increases. The LRAS curve shifts ______. GDP ______ and prices ______ | If the quantity of labour grows, capital is accumulated, or technology advances, potential GDP increases. The LRAS curve shifts rightward. GDP increases and prices decline |
| Inflation in the Long-Run | Occurs when AD grows faster than potential output |
| The Business Cycle in the AS-AD Model | occurs because aggregate demand the short-run aggregate supply fluctuate, but the money wage does not change rapidly enough to keep real GDP at potential GDP |
| Below Full-Employment Equilibrium | an equilibrium in which potential GDP exceeds real GDP |
| Above Full-Employment Equilibrium | an equilibrium in which real GDP exceeds potential GDP |
| Full-Employment Equilibrium | an equilibrium in which real GDP equals potential GDP |
| Recessionary Gap | The amount by which potential GDP exceeds real GDP |
| Inflationary Gap | The amount by which real GDP exceeds potential GDP |
| An increase in aggregate demand shifts the aggregate demand curve ______ | An increase in aggregate demand shifts the aggregate demand curve rightward |
| An increase in investment shifts the AE curve ______ and shifts the AD curve _____ | An increase in investment shifts the AE curve upward and shifts the AD curve rightward |
| When the price level rises, the AE curve shifts ______ | When the price level rises, the AE curve shifts downward |
| At the short-run equilibrium, there is an __________ gap | At the short-run equilibrium, there is an inflationary gap |
| In the long run, the multiplier is ______ | In the long run, the multiplier is 0 |
| A rise in the price level causes the SRAS curve to shift ______. Real GDP ______ and the price level ______ . This is called _______ | A rise in the price level causes the SRAS curve to shift leftward. Real GDP decreases and the price level rises. This is called stagflation |
| 3 Macroeconomic Schools of Thought | 1. Classical 2. Keynesian 3. Monetarist |
| The Classical View | believes that the economy is self-regulating and always at full-employment |
| The Keynesian View | believes that left alone, the economy would rarely operate at full employment and that to achieve and maintain full employment, active help from fiscal policy and monetary policy is required |
| The Monetarist View | believes that the economy is self-regulating and that it will normally operate at full employment, provided that monetary policy is not erratic and that the pace of money growth is kept steady |
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