Aggregate Demand and Aggregate Supply

1. Jose Escobar

2. 2
Describe the following events in terms of the AD-SRAS diagram, and explain what happens to
GDP, the price level and unemployment in each case:
STas0
ad0
STas1
p
p1
p2
1. An increase in interest rates causes house prices to plummet
and consumer wealth to decrease
Assuming that the economy start in point A, a decrease in the
consumer wealth will generate a decrease in “ad” that will
move the price to p1, in the short term “as” will react decreasing
production and this will generate a new level of unemployment
y1 setting in “B”.
ad1
y1 y0
A
C
B
2. Labour unions recognize that prices have generally fallen and
agree to a 2% cut in wages across the board
Almost a continuation of the previous question. Assuming that you
the economy start in point B. Wages will decrease allowing full
employment and setting in “C” with price p2 and with the long
term “as” production level.

3. 3
Describe the following events in terms of the AD-SRAS diagram, and explain what happens to
GDP, the price level and unemployment in each case:
STas0
ad0
STas1
p
p1
3. The discovery of new and more efficient
methods in manufacturing causes the cost of production to fall in
essential sectors
New and more efficient technology will make the short term
“as” to move to the right decreasing price and increasing
production, finding a new equilibrium in point B. My question is
that if in the long run the “as” will find a new long term level of
production in the same point “B”? y1y0
A
B
4. The approval rating of the government falls sharply due to
weakness in the economy, and elections are due in 12 months.
The government decides to implement a broad-based spending
programme.
This government spending increase will move the “ad” to the
right increasing prices and increasing production to settle in
point B; in the long run the overtime to produce more (increase
in wages) will make the “short term as” to move to the left and
find equilibrium at C with a higher price and the same level of
production that in the long term “as”.
STas0
ad0
STas1
p
p1
p2
ad1
y1y0
A
C
B