Week 2: The Aggregate Supply-Aggregate Demand Model

Classic Keynesian debate in modern context:

1) How active should government be ?

2) Is it government's role to implement discretionary policies to solve Macro Problems?

3) Might government's intervention make the situation worse ?

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Say's Law: Supply itself will create its own demand

Logic: People work--> Produce goods and services (create supply)--> earn income --> Income equals value of goods and services produces(key assumption) --> people spend all their income --> buy all supply--> therefore supply creates its own demand.

Critique: 1) people might save money rather than spend all of their income  2) the population might grow faster than the production which might result in starvation. 3) The supply might not be all needed by people which will cause unemployment rather than demand

Debate: 1) the saved money will be used for business investment rather than just wasting.

Aggregate Demand=Consumption + Investment=Aggregate Supply

Firms production---> Household    Aggregate Supply (AS)=Employee compensation, rents, interest, profits

Household --> 1) consumption  2) investment in bank

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The Quantity Theory of Money

M*V=P*Q  ( P*Q is also nominal GDP)

M: money supply        V: velocity of money      P: price level      Q: real, inflation-adjusted output (real GDP)

How effective is monetary policy ? eg. increasing M to increase real GDP growth Q?

Classic view of monetary policy:

Assumption: 1) Constant velocity of money  2) money is merely availed

print money to stimulate real GDP growth will only result in inflation.

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Shift factors for AD curve

GDP=C+I+G+E-I

C: consumer wealth, consumer expectation , household debt, tax policy

I: interest rates, profit expectations, business taxes, technology, excess capacity

G: fiscal policy, government debt, political control

Net E: exchange rates, growth rates in other countries.

ETF: exchange traded fund

Shift factors for AS curve

1) Factor input prices: Land, Labor, Capital, Energy

2) Business-government environment: Legal, Regularity, Tax

3) Technology : Innovation, Productivity

Cost-Pull Inflation = Supply side inflation, such as oil cost push, which might further result in stagflation

Productivity=Total Output/ Total Input

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图片发自App

The leadership might prefer the AS move due to higher real GDP and lower inflation.

图片发自App