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Chapter 19

Chapter 19. Aggregate Demand and Aggregate Supply Principles of Economics by Fred M Gottheil PowerPoint Slides prepared by Ken Long. 5/27/2014. © 1999 South-Western College Publishing. What is the Business Cycle?. Alternating periods of growth and decline in an economy’s GDP.

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Chapter 19

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  1. Chapter 19 • Aggregate Demand and Aggregate Supply • Principles of Economicsby Fred M Gottheil • PowerPoint Slides prepared by Ken Long 5/27/2014 ©1999 South-Western College Publishing

  2. What is theBusiness Cycle? • Alternating periods of growth and decline in an economy’s GDP ©1999 South-Western College Publishing

  3. Aggregate Output Trough Peak The Business Cycle Time 3

  4. What are the four stages of the Business Cycle? • trough • expansion • peak • recession ©1999 South-Western College Publishing

  5. Aggregate Output Trough Peak The Business Cycle Time 5

  6. Aggregate Output The Business Cycle Peak Recession Expansion Trough Time 6

  7. What is a Recession? • A phase in the business cycle in which the decline in the economy’s real GDP persists for at least 6 months ©1999 South-Western College Publishing

  8. What is a Depression? • A severe recession ©1999 South-Western College Publishing

  9. What is Prosperity? • A phase in the business cycle marked by a relatively high level of real GDP, full employment, and inflation ©1999 South-Western College Publishing

  10. What is Inflation? • An increase in the price level ©1999 South-Western College Publishing

  11. How do we measure Economic Growth? • Gross Domestic Product ©1999 South-Western College Publishing

  12. What isGross Domestic Product? • GDP is the total value of all final goods and services measured in current market prices, produced in the economy in any one year ©1999 South-Western College Publishing

  13. What is a Final Good? • A good that is not itself used to produce other goods ©1999 South-Western College Publishing

  14. What does “measured in current market prices” mean? • The year in which the good was made, the current market price ©1999 South-Western College Publishing

  15. What does “produced in the economy” mean? • It is produced domestically ©1999 South-Western College Publishing

  16. For the latest measure of GDP visit - • http://www.whitehouse.gov/fsbr/esbr.html • http://www.bea.doc.gov ©1999 South-Western College Publishing

  17. How do we make adjustments for prices? • We measure both Nominal and Real GDP ©1999 South-Western College Publishing

  18. What is Nominal GDP? • GDP measured in terms of current market prices - it is not adjusted for inflation ©1999 South-Western College Publishing

  19. What is Real GDP? • GDP adjusted for changes in the price level ©1999 South-Western College Publishing

  20. What is a Base Year? • The reference year with which prices in other years are compared in a price index ©1999 South-Western College Publishing

  21. What is the Price Level? • A measure of prices in one year expressed in relation to prices in a base year ©1999 South-Western College Publishing

  22. What is the Consumer Price Index? • A measure comparing the prices of consumer goods and services that a household typically purchases compared to a base year ©1999 South-Western College Publishing

  23. What is the value of the index in the base year? • 100 ©1999 South-Western College Publishing

  24. If nominal GDP is $750 billion and the price index for that year is 1.11, then real GDP = • $750/1.11 (or) $675.68 ©1999 South-Western College Publishing

  25. What is the Consumer Price Index (CPI)? • A measure over time of the cost of a fixed ‘market basket’ of consumer goods and services ©1999 South-Western College Publishing

  26. How does the GDP index compare with the CPI index? • GDP uses a different basket of goods and services each year whereas the CPI uses a fixed basket determined in the base year ©1999 South-Western College Publishing

  27. For the latest measure of CPI visit - • http://stats.bls.gov/cpihome.htm • http://woodrow.mpls.frb.fed.us/economy/calc/hist1913.html ©1999 South-Western College Publishing

  28. What is theGDP Price Deflator? • A measure comparing the prices of all goods and services produced in the economy during a given year to the prices of those goods and services purchased in a base year ©1999 South-Western College Publishing

  29. Real GDP = Nominal GDP x 100GDP Deflator 29 ©1999 South-Western College Publishing

  30. For current and historical data on production - • http://www.bog.frb.fed.us/releases • http://www.census.gov ©1999 South-Western College Publishing

  31. What isAggregate Demand? • The total quantity of goods and services demanded by households, firms, foreigners, and government at varying price levels ©1999 South-Western College Publishing

  32. Price Level AD Real GDP 32

  33. What factors can explain the downward slope of Aggregate Demand? • Real wealth effect • Interest rate effect • International trade effect ©1999 South-Western College Publishing

  34. Real Wealth Effect • As the price level rises, real purchasing power of some assets declines, thus may reduce spending

  35. Interest Rate Effect • A rise in the price level can raise interest rates, leading to less consumption and investment spending

  36. International Trade Effect • A rise in domestic prices relative to foreign prices will reduce exports, raise imports

  37. What factors can cause a shift in Aggregate Demand? A change in ... • government spending • taxes • income abroad • expectations ©1999 South-Western College Publishing

  38. What isAggregate Supply? • The total quantity of goods and services that firms are willing to supply at varying price levels ©1999 South-Western College Publishing

  39. What is the Shape of the AS curve? • Very controversial, different ways of viewing AS curve

  40. One type of AS curve, 3 sections to it • Horizontal section • Upward sloping section • Vertical section

  41. Aggregate Supply Curve Price level AS Real GDP 41

  42. Why is Aggregate Supply perfectly vertical at higher levels of GDP? • Because all resources are fully employed beyond some level of GDP ©1999 South-Western College Publishing

  43. Why is the Aggregate Supply Curve horizontal at low levels of GDP? • Because so many resources are not used or are under utilized ©1999 South-Western College Publishing

  44. Why is the AS Curve upward sloping at higher levels of GDP? • Because we have run out of some resources so an increase in demand causes those prices to increase ©1999 South-Western College Publishing

  45. Aggregate Supply Curve Price level AS Real GDP 45

  46. What is Macroequilibrium? • The level of real GDP and the price level that equate the aggregate quantity demanded and the aggregate quantity supplied ©1999 South-Western College Publishing

  47. Shifts in the AD Curve Price level AS P2 AD2 P1 Real GDP AD1 47 Q1 Q2

  48. Will any increase in demand cause inflation? It depends on where the aggregate demand curve falls on the aggregate supply curve No! ©1999 South-Western College Publishing

  49. Aggregate Supply Curve AS Price level AD4 AD3 AD2 AD1 Real GDP 49

  50. Shifts in the AS Curve Price level AS1 AS2 P2 P1 Real GDP AD1 50 Q2 Q1

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