AD AS Model
The AD AS (Aggregate Demand-Aggregate Supply) model is a framework used to analyze the fluctuations in the economy's output and price level. It shows the relationship between the total spending in the economy (aggregate demand) and the total production of goods and services (aggregate supply). The model helps to understand how changes in factors such as consumption, investment, government spending, and net exports affect the economy.
7 Key excerpts on "AD AS Model"
eBook - ePub- Mauro Gallegati, Antonio Palestrini, Alberto Russo, Mauro Gallegati, Antonio Palestrini, Alberto Russo(Authors)
- 2017(Publication Date)
- Academic Press(Publisher)
...By summing up the notional quantity at individual level we obtain both the aggregate demand and supply. In this way, we provide a simple visualization of complex macroeconomic dynamics, similar to that proposed in the mainstream approach. Therefore, we can study the similarities and differences between the mainstream and the agent-based frameworks, trying to understand the role of heterogeneity and interaction in shaping aggregate curves and macroeconomic equilibria. The chapter is organized as follows. Section 3.2 briefly reviews the standard textbook approach to the AD-AS equilibrium. Section 3.3 describes the agent-based macroeconomic model. Sections 3.4 and 3.5 illustrate the methodology used to build the aggregate demand and the aggregate supply curves, respectively. Section 3.6 concludes by discussing the difference between the mainstream equilibrium and the agent-based disequilibrium approach. 3.2 The Standard AD-AS Model The AD-AS model is a standard tool in macroeconomic analysis. AD represents the aggregate demand, whereas AS stays for aggregate supply. This is explained to students when the macroeconomic theory is introduced, often preceded by the IS-LM model (with fixed prices). Indeed, in an introductory course on macroeconomics, when organized starting from the analysis of the short-run to proceed with the medium- and then the long-run analysis of economic growth, one firstly is taught the IS-LM model, and then the AD curve can be constructed on this basis, corresponding to an IS-LM model with flexible prices. Based on the Phillips curve, which is on the inverse relationship between (wage) inflation and unemployment, typically assuming a constant mark-up, the AS curve is introduced, and the AD-AS model can be used for the macroeconomic analysis of the medium run. In its simplest form, the AD-AS model is represented as the interaction between two linear curves, though nonlinear relationships are quite commonly employed...
eBook - ePubEconomic Principles and Problems
A Pluralist Introduction
- Geoffrey Schneider(Author)
- 2021(Publication Date)
- Routledge(Publisher)
...However, there are significant debates among economists regarding the long-term functioning of the economy, and it is important for you to understand the basic parameters of the debate. This chapter begins by describing the short-run aggregate demand and aggregate supply (AD–AS) model. The chapter then takes up how the multiplier determines the magnitude of shifts in the aggregate demand curve. Subsequently, the chapter discusses the classical and Keynesian models of how the AD–AS model adjusts in the long run and the debate over how the government should intervene during recessions and expansions. The chapter finishes by discussing some of the problems with the AD–AS model according to political economists. 27.0 Chapter 27 learning goals After reading this chapter you should be able to: Use an aggregate demand and aggregate supply graph to determine how a variety of factors will affect the national price index and real gross domestic product (GDP). Define the marginal respending rate, list its components, and explain how the marginal respending rate and its components are related to the multiplier. Compute the multiplier using the marginal respending rate. Use the multiplier to determine exactly how much the aggregate demand curve will shift in response to specific changes in one of the components of aggregate demand. Use the classical model and the Keynesian model to analyze how the macroeconomy will respond to a temporary downturn, a recession, and an overheated economy. Critically evaluate the applicability of the classical model and the Keynesian model to the modern economy. Describe and analyze the critique of the AD–AS model by political economists. 27.1 The short-run aggregate demand and aggregate supply model Figure 27.1 depicts a typical aggregate demand and aggregate supply graph for the economy. We use the price index for the whole economy, the GDP deflator, on the price axis...
eBook - ePubMoney and Banking
An International Text
- Robert Eyler(Author)
- 2009(Publication Date)
- Routledge(Publisher)
...The economic problems of inflation are discussed, as well as issues in measuring inflation and the price indices used to track aggregate price changes. Next is an overview of unemployment. While labor economics has evolved away from macroeconomics, some simple ideas that combine both the microeconomic decisions of the firm and aggregate measures of labor markets show connections to monetary policy. Fourth is a section on expectations, how adaptive and rational expectations are defined in the context of inflation and unemployment. Finally, this chapter ends with a discussion of monetary discretion versus rules. Should monetary policy-makers have a choice as to when and how to manipulate the money supply? Should their choice be based on a macroeconomic rule instead? The most beloved way of studying macroeconomic effects from monetary policy is the IS-LM model which extends the AD-AS model. The AD-AS model: a brief overview A large amount of analysis can be done using this simple model, which aggregates both the supply and demand curves from the market for all goods and services throughout the macroeconomy. Aggregate Demand (AD) retains a downward slope in y-P space, where P is a measure of the average, aggregate price level for a household’s consumption bundle and y is real GDP. Just like a market demand curve, the AD curve represents price–quantity combinations at which consumers are in “equilibrium”, where marginal utility is equal to marginal cost. The Aggregate Supply (AS) curve slopes upward, at least a portion of it does, reflecting the profit incentives of firms to increase production as prices rise. The AS curve’s shape, at its ends, reflects differences in expectations formation and firms’ reactions to demand-side growth. Because the AD curve is less controversial, our analysis begins there. The AD curve Few economists debate aggregate demand basics...
eBook - ePubMacroeconomic Theory: A Short Course
A Short Course
- Thomas R. Michl(Author)
- 2015(Publication Date)
- Routledge(Publisher)
...Chapter 9 The AS-AD Model DOI: 10.4324/9781315702742-9 The AS-AD model is a complete macroeconomic model. It describes a general equilibrium involving the product market, the money market, the bond market, and the labor market. The AS-AD model generates an important distinction between the short-run and long-run behavior of the economy. In the short run, price expectations have been decided and are not subject to revision. Each period is a short run. The long run is defined as a state of the world in which all the markets are fully adjusted and price expectations are also fully adjusted. We will see that the long-run equilibrium of the AS-AD model is the natural level of GDP and the natural rate of unemployment. When the model is out of its long-run equilibrium (assuming one exists), it moves toward it through a sequence of short-run equilibria. The main dynamic factor that propels it is the cycle of price expectations, wage setting, and price setting that we studied in the previous chapter. 9.1 Dynamic adjustment in the AS-AD model Before we can comfortably undertake a comparative equilibrium analysis of the AS-AD model, we need to be certain that the equilibrium is stable. In this analysis, we will assume, somewhat arbitrarily, that the economy achieves IS-LM equilibrium instantaneously. This means we will continuously achieve a short-run equilibrium position on the AD curve —the mirror of the IS-LM system. Similarly, we assume there are no lags between wage and price setting, so that the economy is always operating on the AS curve. The dynamic path of the economy will be described by the points of intersection between the AS and AD curves over time. Consider a level of GDP lying below the natural level of output, such as Y 0 in Figure 9.1. At this level of output, the actual price level falls short of the expected price level. Workers receive a higher real wage than befits their weak bargaining position; employers will insist upon pay cuts...
eBook - ePubContemporary Economics
An Applications Approach
- Robert Carbaugh(Author)
- 2016(Publication Date)
- Routledge(Publisher)
...An economy is in equilibrium when aggregate demand equals aggregate supply. The aggregate demand curve shows the total amount of real output that buyers will purchase at alternative price levels during a given year. Movements along an aggregate demand curve are caused by changes in the price level of the economy. Shifts in the aggregate demand curve are caused by changes in non-price factors that affect household consumption expenditures, business investment, government expenditures, and net exports of goods and services. According to the multiplier effect, a change in any one of the components of aggregate demand (consumption, investment, government spending, or net exports) will have a magnified impact on national output and income. The size of the multiplier depends on the spending and saving habits of consumers and businesses. The aggregate supply curve shows the relationship between the level of prices and amount of real output that will be produced by the economy in a given year. The aggregate supply curve is horizontal when the economy is in deep recession or depression, upward-sloping when the economy approaches full employment, and vertical when the economy achieves full employment. Changes in factors such as resource prices, resource availability, and the level of technology will cause the aggregate supply curve to shift. The model of aggregate demand and aggregate supply can be applied to the problems of recession and inflation. According to this model, decreases in aggregate demand or aggregate supply can push the economy into recession; inflation may be the result of increases in aggregate demand or decreases in aggregate supply...
eBook - ePubFoundations of Macroeconomics
Its Theory and Policy
- Frederick S. Brooman(Author)
- 2017(Publication Date)
- Routledge(Publisher)
...Suppose consumers always wish to consume four-fifths of their income and that firms plan a fixed amount of investment, in real terms, equal to 20 units of output. At a price level of $1 per unit of output, the aggregate demand function is D = 0.8(Q) + 20. If the price level were the same at all levels of output, aggregate demand at selected levels of Q would be as follows: These figures show a “straight-line” relationship between real income and demand of the kind illustrated in Figure 6.1. Now suppose that supply prices ($ per unit of Q) at the various levels of Q are as follows: Fig. 10.2 Aggregate supply and demand curves. The demand curve indicates the total desired expenditure at each level of real output if goods are offered at the appropriate “supply price.” When both Q and D are multiplied by these prices, the resulting pQ’s are the values of aggregate supply for the different values of Q, and the pD’s are aggregate demand in money terms: When these figures are plotted in a graph, they are consistent with curves similar to those shown in Figure 10.2. Over most of its length, d (Q, p) has a curvature similar to that of the aggregate supply curve. To the right of the intersection of the two curves at E, expected revenue is greater than desired expenditure, while to the left of the intersection the reverse is true, indicating that E is a point of stable equilibrium with respect to both real output and the price level...
eBook - ePub- Bradley T. Ewing, John M. Barron, Gerald J. Lynch(Authors)
- 2006(Publication Date)
- Routledge(Publisher)
...To understand more clearly what is involved in aggregate supply and demand analysis and how they can be combined, we consider below the specific case of the neoclassical model, starting with the aggregate supply. Equilibrium and aggregate supply As we have said, behind aggregate supply is an analysis of various input markets to determine the response of total output to changes in such variables as the price level. 7 In the neoclassical model changes in prices lead to equiproportionate changes in money wages with no change in the equilibrium level of employment and thus no change in aggregate supply. To formally show this, let us start with the following statement of equilibrium in the labor market in terms of a money wage w t and level of employment N t such that A critical aspect of the above is the fact that suppliers, in particular suppliers of labor, correctly anticipate the price level that will exist with respect to output, so that w t / p t replaces in the labor supply function. Totally differentiating the above two equations with respect to w t, N t, and p t, one obtains Applying Cramer's rule, one obtains: dw t /dp t = w t /p t and dN t /dp t = 0. Thus in the neoclassical model, the real wage and employment level determined in the labor market are independent of changes in the price level. 8 The “aggregate supply equation” combines the analysis of the labor market (and other input markets) and resulting determination of employment of various inputs with the production function to determine the resulting output supplied. For the neoclassical model, the aggregate supply equation is of the form: What is important about this equation is that the price level and interest rate are not arguments in the supply equation. Of course, changes in the capital stock, changes in technology, or changes in the supply of other inputs (e.g., changes in the oil supply) can affect output...
