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Chapter 4

4.3 Equilibrium (AD = AS)

 Equilibrium sets the size of the economy and average price levels, so any
movements can be used to explain impact on growth, unemployment and
inflation.

Movements in AD

 When initial equilibrium is at lower output levels (high spare capacity):
if demand increases from AD 1 to AD 2, then this should give significant growth
(Y 1 to Y 2) - with reduced unemployment - but without significant increases in
inflation (P 1 to P 2)

 When initial equilibrium is at higher output levels (low spare capacity):
attempts to move AD from AD 3 to AD 4 will result in a smaller impact on
unemployment and output (Y 3 to Y 4) but a much larger increase in inflation
(P 3 to P 4)

 The impact of moving AD thus depends on where you are on the AS curve

 If a government is deciding whether to, for example, increase spending (and
therefore AD) to stimulate the economy it should only do so if there is enough
spare capacity to accommodate the growth

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