So now, let's see what happens with the equilibrium in the short run and the long run when we have a shift in our aggregate demand. When we're shifting aggregate demand, we always follow a three-step process. The first thing is that our aggregate demand is going to shift. The problem will tell you something that affects aggregate demand, and we have to decide: Was it a good thing that's going to shift it to the right or a bad thing that will shift it to the left? That's very similar to what you're used to from supply and demand, shifting curves, looking for equilibrium, all of that good stuff, right? So, that's the first thing we're going to do. Next, we're going to find the short-run equilibrium. First, is shift aggregate demand. Next, is short-run equilibrium. And third, we already know how to find our short-run equilibrium, we're going to shift that aggregate demand and we're going to see where that new aggregate demand curve intersects with our short-run aggregate supply. So that will be our short-run equilibrium. Third, an opposite shift occurs in short-run aggregate supply. This is the economy adjusting for this short-run disequilibrium that's not the long-run equilibrium. So we're going to see what that looks like on the graph. But note that this third step doesn't happen immediately. It takes time for this third step to occur. But when we're looking at it on the graph, what we're looking for is what the short-run equilibrium is going to be and what the new long-run equilibrium will be after this shift. And what we're going to note is that the short-run aggregate supply is going to shift to find our new long-run equilibrium. It's easier to see this in an example, but this three-step process is: first, shifting the aggregate demand, second, we find our short-run equilibrium, and third, we find our long-run equilibrium with a shift in short-run aggregate supply. Alright? So, let's start here with a decrease in aggregate demand, which is something like when we have a recession or cyclical unemployment. We're going to see that a decrease in aggregate demand leads to a recession and cyclical unemployment. There's less demand. So, let's go ahead and see what happens here. A decrease in expected future profit has led to decreased investment spending. This is the key here. Decreased investment spending is going to affect our aggregate demand curve. So, let's go ahead and draw here on the graph. Remember, we've got our price level and our real GDP over here. The key here is that there's decreased investment spending, and remember, aggregate demand is made up of consumption, investment spending, government purchases, and net exports. So if there's decreased investment spending, there's going to be decreased aggregate demand. So let's go ahead and draw this in. Let's draw our original situation. Which one's aggregate demand here? Remember, we've got our downward demand, short-run aggregate supply, and long-run aggregate supply. So, I'm going to put a D1 because we're shifting our aggregate demand curve. So what I'm going to do now is I'm going to draw our new aggregate demand curve to the left. We're going to shift it to the left because we have a decrease in our aggregate demand, and I'm going to draw it down here. First, actually, I want to show you where our long-run equilibrium was initially. Right here was our initial price level. And now we're going to shift to the left. So if we shift our aggregate demand curve to the left, to AD2, what's going to happen here? Where's our new short-run equilibrium? So right here is short-run equilibrium, where our new aggregate demand curve is touching the short-run aggregate supply curve. So this decrease in investment spending has caused the aggregate demand to shift to the left, leading to a lower price level in the short run. There's a lower price level, and this was our original GDP right here when we were in long-run equilibrium. And now, we've got this GDP right here, which is lower because of this decrease in aggregate demand. So, these are steps 1 and 2. Step 1, we shifted the aggregate demand to the left. Step 2, we found our new equilibrium, and we're able to analyze what happened: We had a decrease in the price level in the short-run equilibrium and a decrease in equilibrium GDP in the short run as well. So, step 3 is going to be our aggregate supply reacting. Our aggregate supply is going to react to this short-run shift to get us back to a long-run equilibrium. So what we're going to do is we're going to shift our short-run aggregate supply curve the opposite way. So if our aggregate demand had shifted to the left, our aggregate supply is going to shift to the right. Short-run aggregate supply, which was aggregate supply 1, we're going to draw a new short-run aggregate supply going to the right because the aggregate demand went to the left. Aggregate supply is going to go to the right. This is the key point right here. This is where we want to shift it to get it back into long-run equilibrium. Remember, our long-run equilibrium had the X with the straight line going up, the long-run star shape equilibrium. So, our new long-run equilibrium is going to pass through this point where our new aggregate demand, the red line, is going to be touching the long-run aggregate supply that's not shifting. So let's go ahead and draw that here. This would be our short-run aggregate supply shifting to the right to meet that new long-run equilibrium, short-run aggregate supply 2. This doesn't happen immediately, as I said. This short-term aggregate demand shifted to the left, and over time, this aggregate supply is going to shift to the right to adjust for this. Here is our new long-run equilibrium, right here in green, new long-run equilibrium. What is this new long-run equilibrium? What is affected? We've gotten back to the same level of long-run GDP and remember, that's always based on the factors of production in the economy. But where we end up with is at a lower price level. In the short run: lower price level, lower GDP. And then, in the long run, we're back to an equal GDP at a lower price level. So, this is an extra step compared to what we're used to when we're shifting curves in our market demand and supply, but it's not so crazy. All we're doing is having an opposite shift in our short-run aggregate supply, which is always going to be the one that adjusts back to our long-run equilibrium. Let's go ahead and pause here, and then we'll talk about an increase in aggregate demand.
Table of contents
- 1. Introduction to Macroeconomics1h 57m
- 2. Introductory Economic Models59m
- 3. Supply and Demand3h 43m
- Introduction to Supply and Demand10m
- The Basics of Demand7m
- Individual Demand and Market Demand6m
- Shifting Demand44m
- The Basics of Supply3m
- Individual Supply and Market Supply6m
- Shifting Supply28m
- Big Daddy Shift Summary8m
- Supply and Demand Together: Equilibrium, Shortage, and Surplus10m
- Supply and Demand Together: One-sided Shifts22m
- Supply and Demand Together: Both Shift34m
- Supply and Demand: Quantitative Analysis40m
- 4. Elasticity2h 26m
- Percentage Change and Price Elasticity of Demand19m
- Elasticity and the Midpoint Method20m
- Price Elasticity of Demand on a Graph11m
- Determinants of Price Elasticity of Demand6m
- Total Revenue Test13m
- Total Revenue Along a Linear Demand Curve14m
- Income Elasticity of Demand23m
- Cross-Price Elasticity of Demand11m
- Price Elasticity of Supply12m
- Price Elasticity of Supply on a Graph3m
- Elasticity Summary9m
- 5. Consumer and Producer Surplus; Price Ceilings and Price Floors3h 40m
- Consumer Surplus and WIllingness to Pay33m
- Producer Surplus and Willingness to Sell26m
- Economic Surplus and Efficiency18m
- Quantitative Analysis of Consumer and Producer Surplus at Equilibrium28m
- Price Ceilings, Price Floors, and Black Markets38m
- Quantitative Analysis of Price Ceilings and Floors: Finding Points20m
- Quantitative Analysis of Price Ceilings and Floors: Finding Areas54m
- 6. Introduction to Taxes1h 25m
- 7. Externalities1h 3m
- 8. The Types of Goods1h 13m
- 9. International Trade1h 16m
- 10. Introducing Economic Concepts49m
- Introducing Concepts - Business Cycle7m
- Introducing Concepts - Nominal GDP and Real GDP12m
- Introducing Concepts - Unemployment and Inflation3m
- Introducing Concepts - Economic Growth6m
- Introducing Concepts - Savings and Investment5m
- Introducing Concepts - Trade Deficit and Surplus6m
- Introducing Concepts - Monetary Policy and Fiscal Policy7m
- 11. Gross Domestic Product (GDP) and Consumer Price Index (CPI)1h 37m
- Calculating GDP11m
- Detailed Explanation of GDP Components9m
- Value Added Method for Measuring GDP1m
- Nominal GDP and Real GDP22m
- Shortcomings of GDP8m
- Calculating GDP Using the Income Approach10m
- Other Measures of Total Production and Total Income5m
- Consumer Price Index (CPI)13m
- Using CPI to Adjust for Inflation7m
- Problems with the Consumer Price Index (CPI)6m
- 12. Unemployment and Inflation1h 22m
- Labor Force and Unemployment9m
- Types of Unemployment12m
- Labor Unions and Collective Bargaining6m
- Unemployment: Minimum Wage Laws and Efficiency Wages7m
- Unemployment Trends7m
- Nominal Interest, Real Interest, and the Fisher Equation10m
- Nominal Income and Real Income12m
- Who is Affected by Inflation?5m
- Demand-Pull and Cost-Push Inflation6m
- Costs of Inflation: Shoe-leather Costs and Menu Costs4m
- 13. Productivity and Economic Growth1h 17m
- 14. The Financial System1h 37m
- 15. Income and Consumption52m
- 16. Deriving the Aggregate Expenditures Model1h 22m
- 17. Aggregate Demand and Aggregate Supply Analysis1h 18m
- 18. The Monetary System1h 1m
- The Functions of Money; The Kinds of Money8m
- Defining the Money Supply: M1 and M24m
- Required Reserves and the Deposit Multiplier8m
- Introduction to the Federal Reserve8m
- The Federal Reserve and the Money Supply11m
- History of the US Banking System9m
- The Financial Crisis of 2007-2009 (The Great Recession)10m
- 19. Monetary Policy1h 32m
- 20. Fiscal Policy1h 0m
- 21. Revisiting Inflation, Unemployment, and Policy46m
- 22. Balance of Payments30m
- 23. Exchange Rates1h 16m
- Exchange Rates: Introduction14m
- Exchange Rates: Nominal and Real13m
- Exchange Rates: Equilibrium6m
- Exchange Rates: Shifts in Supply and Demand11m
- Exchange Rates and Net Exports6m
- Exchange Rates: Fixed, Flexible, and Managed Float5m
- Exchange Rates: Purchasing Power Parity7m
- The Gold Standard4m
- The Bretton Woods System6m
- 24. Macroeconomic Schools of Thought40m
- 25. Dynamic AD/AS Model35m
- 26. Special Topics11m
17. Aggregate Demand and Aggregate Supply Analysis
AD-AS Model: Shifts in Aggregate Demand
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