Page 226 - Economics

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keygraph

FIGURE 10.6 The equilibrium price level and equilibrium real GDP. The intersection of the aggregate demand curve and the aggregate supply
curve determines the economy’s equilibrium price level. At the equilibrium price level of 100 (in index-value terms) the $510 billion of real output demanded matches the
$510 billion of real output supplied. So the equilibrium GDP is $510 billion.
Real Output Real Output
Demanded Price Level Supplied
AS (Billions) (Index Number) (Billions)
Price level (index numbers) 100 a b 512 100 507
$513
$506
108
508
512
104
510
510
96
92
502
514
92
AD
0 502 510 514
Real domestic output, GDP
(billions of dollars)

QUICK QUIZ 10.6
1. The AD curve slopes downward because: 3. At price level 92:
a. per-unit production costs fall as real GDP increases. a. a GDP surplus of $12 billion occurs that drives the price
b. the income and substitution effects are at work. level up to 100.
c. changes in the determinants of AD alter the amounts of real b. a GDP shortage of $12 billion occurs that drives the price
GDP demanded at each price level. level up to 100.
d. decreases in the price level give rise to real-balances effects, c. the aggregate amount of real GDP demanded is less than the
interest-rate effects, and foreign purchases effects that aggregate amount of GDP supplied.
increase the amounts of real GDP demanded. d. the economy is operating beyond its capacity to produce.
2. The AS curve slopes upward because: 4. Suppose real output demanded rises by $4 billion at each price
a. per-unit production costs rise as real GDP expands toward level. The new equilibrium price level will be:
and beyond its full-employment level. a. 108.
b. the income and substitution effects are at work. b. 104.
c. changes in the determinants of AS alter the amounts of real c. 96.
GDP supplied at each price level. d. 92.
d. increases in the price level give rise to real-balances effects,
interest-rate effects, and foreign purchases effects that
increase the amounts of real GDP supplied. Answers: 1. d; 2. a; 3. b; 4. b

The classic American example of demand-pull from 1.6 percent in 1965 to 5.7 percent by 1970. (Key
inflation occurred in the late 1960s. The escalation of the Question 4)
war in Vietnam resulted in a 40 percent increase in A careful examination of Figure 10.7 reveals an
defense spending between 1965 and 1967 and another 15 interesting point concerning the multiplier effect. The
percent increase in 1968. The rise in government spend- increase in aggregate demand from AD 1 to AD increases
2
ing, imposed on an already growing economy, shifted the real output only to Q , not to Q , because part of the increase
1
2
economy’s aggregate demand curve to the right, in aggregate demand is absorbed as inflation as the price
producing the worst inflation in two decades. Actual level rises from P to P . Had the price level remained at P ,
1
2
1
GDP exceeded potential GDP, and inflation jumped the shift of aggregate demand from AD to AD would have
2
1
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