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Chapter 26

ECON 1010 - Class Notes - Chapter 26.docx

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York University
ECON 1010
Jean Adams

CHAPTER 26: AGGREGATE SUPPLYAND DEMAND ECON 1010 WEEK 7 • Aggregate supply o Aggregate quantity of goods and services supplied depends on:  Quantity of labour  Quantity of capital  State of technology o Aggregate production function shows how quantity of real GDP supplied depends on labour, capital and technology o Y= F (L,K,T); real GDP is a function of supply o At any given time, quantity of capital and state of technology are fixed o Real wage rate and quantity of labour demanded are inversely linked o Wage rate that makes quantity of labour demanded and supplied equal Is the equilibrium wage rate and that point is the natural rate of unemployment o Two time frames are associated with the labour market:  Long-run aggregate supply • Macroeconomic long run is a time frame that is sufficiently long for all adjustments to be made so that real GDP = potential GDP & there is full employment • Long-run aggregate supply curve (LAS) is the relationship between the quantity of real GDP supplied and the price level when real GDP = potential GDP • LAS curve is a vertical line because in the long-run, potential GDP is independent of price level • Along the LAS curve, all prices and wage rates vary by the same percentage so that relative prices and real wage rate remain constant  Short-run aggregate supply • Macroeconomic short run is a period during which real GDP is different from potential GDP • Unemployment is also different from natural unemployment • SAS is the relationship between quantity of real GDP supplied and price level in short-run when other factors (money wage, prices of other resources, potential GDP) remain constant • SAS is upward sloping because a higher price level forces firms to bear a higher marginal cost and induce production increases o Achange in the price level with an equal percentage change in the money wage causes a movement along the LAS curve o Achange in the price level with no (or small) change in the money wage causes movement along the SAS curve o Changes in aggregate supply:  Potential GDP • increase; both LAS and SAS move to the right • Potential GDP changes for three reasons: o Change in full-employment quantity of labour o Change in quantity of capital o Advance in technology  Change in money wagerate • Rise in money wage rate decreases SAS and shifts curve leftward • No effect on LAS • Aggregate demand o Quantity of real GDP demanded is the total amount of fine goods and services produced in Canada that people and organizations plan to buy o Y = C+I+G+X-M o Buying plans depend on these main factors:  Price level  Expectations  Fiscal and monetary policy  World economy o Aggregate demand is the relationship between real GDP demanded and the price level o AD curve slopes downward because of:  Wealth effect • Arise in the price level with other factors remaining the same, decreases quantity of real wealth • To restore real wealth, people increase saving; quantity of real GDP demanded decreases  Intertemporal effect • Rise in price level decreases the real value of money and raises interest late • Faced with higher interest rate, people borrow and spend less; lowering real GDP demanded  International effect • Rise in price level increases price of domestic goods relative to foreign goods, raising imports and lowering exports; decreases quantity of real GDP o Changes in aggregate demand:  Any change other than buying plans shifts AD  Most influential factors are: • Expectations o About future income, inflation and profits change aggregate demand o Increases in future income, raisesAD o Rise in expected inflation increases AD o Increase in expected future profit increases AD • Fiscal and monetary policy o Fiscal policy is the government’s attempt to influence economic activity  Tax Cut: Increases disposable income; increases
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