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Integration of AD and AS to determine equilibrium (AD/ AS Model (When…
Integration of AD and AS to determine equilibrium
AD/ AS Model
When aggregate supply (AS) curve and aggregate demand (AD) curves are put together, it shows the AS/AD equilibrium in the economy.
Any shift in aggregate supply or aggregate demand has an impact on the real GDP and the price level.
Short-run macroeconomic equilibrium occurs when the quantity of GDP demanded equals the quantity supplied
Short-run equilibrium does not necessarily take place at full employment
Long-run macroeconomic equilibrium occurs when real GDP equals potential GDP, so that the economy is on the long term AS curve (LRAS)
The SRAS curve shifts leftward, real GDP decreases and the price level rises. A period of time with combined recession and inflation is known as stagflation.
Factors that Affect AD and AS
Aggregate Supply
The increase in nominal wages shifts AS to the left because costs of production increases, which lowers profits.
The increase in prices of other inputs into manufacturing of products also shifts AS to the left because production costs increase.
The usage of technology can shift the AS to the right because it increases the productivity; as a result firms can produce more output with the same amount of resources
Aggregate Demand
When there is an increase in the country’s exchange rates, the net exports decrease and aggregate expenditure also takes a dip resulting in shifting the AD curve to the left.
An increase in the income of the citizens will encourage them to spend more; eventually causing a rightward shift.
Foreign income also has a significant impact on the aggregate demand. When foreign income increases, exports will increase causing the curve to shift to the right as a result of increased aggregate demand
The ‘supply side’ typically examines factors relating to output and pricing decisions of producers, and factor markets.
The ‘demand side’ typically examines factors relating to the demand for goods and the demand and supply of assets
The AD-AS framework divides the economy into two parts – the ‘demand side’ and the ‘supply side’ – and examines their interaction using accounting identities, equilibrium conditions and behavioural and institutional equations.
