5 Steps to a 5 AP Macroeconomics 2019

Aggregate Demand and Aggregate Supply ❮ 109

Consumer Spending (C). If you put more money in the pockets of households, expect

them to consume a great deal of it and save the rest. Consumers also increase their con­

sumption if they are more optimistic about the future.

Investment Spending (I). Firms increase investment if they believe the investment will

be profitable. This expected return on the investment is increased if investors are optimistic

about the future profitability, or if the necessary borrowing can be done at a low rate of

interest.

Government Spending (G). The government injects money into the economy by spend­

ing more on goods and services, by reducing taxes, or by increasing transfer payments.

1. Government spending on goods and services acts as a direct increase in AD.


2. Taxes and transfers. Lowering taxes and increasing transfer payments increase AD
   through C by increasing DI.
   Net Exports (X – M). When we sell more goods to foreign consumers and buy fewer
   goods from foreign producers, this component of AD increases.


3. Foreign incomes. Exports (X) increase with a strong Canadian, Mexican, or
   Brazilian economy. When foreign consumers have more disposable income, this
   
   increases the AD in the United States because those consumers spend some of that
   income on U.S.­made goods.


4. Consumer tastes. Consumer tastes and preferences, both foreign and domestic,
   are constantly changing. If American blue jeans become more popular in France,
   American AD increases. If French wines become more preferred by American con­
   sumers, AD in France increases.


5. Exchange rates. Imports (M) decrease when the exchange rate between the U.S.
   dollar and foreign currency falls. The model of foreign currency exchange is cov­
   ered in a later chapter, but the idea is that foreign goods become relatively more
   expensive and so domestic consumers buy fewer foreign­produced items.

9.2 Aggregate Supply (AS)

Main Topics: What Is Aggregate Supply?, Short-Run and Long-Run Shape of AS, Changes

in AS

Again, there are parallels between our coverage of supply in micro markets and aggregate

supply. The law of supply describes the positive relationship between the micro price of

a product and the quantity of that product that firms supply, and is explained in part by

increasing marginal cost as output rises. What tends to be the case for the supply of a micro

good is also the case for AS, but for different theoretical reasons.

What Is Aggregate Supply?

A microeconomic supply curve for salt illustrates the relationship between the price of salt

and the quantity of salt supplied. When economists aggregate all microeconomic markets

to build AS, we include salt and all other items that are domestically supplied. Aggregate

supply is the relationship between the aggregate price level of all domestic output and the

level of domestic output produced.

Short-Run and Long-Run Shape of AS

The model of AS and the resulting shape of the AS curve depend upon whether the econ­

omy has fully adjusted to market forces and price changes.

KEY IDEA

KEY IDEA