The As And Ad Model Essay

1054 Words Dec 9th, 2015 5 Pages
The AS and AD Model
Aggregate Supply (AS): The total of goods and services produced in an economy at a given price level and period of time . The AS relation P=P^e (1+μ)F (1-Y/AL,Z), explains the effects of output on price level. A higher output results in an increase in price level hence the upward slope of the AS Curve2. Aggregate Demand (AD): The total of goods and services demanded in an economy at a given price level and period of time1. The AD relation Y=Y(M/P,G,T), captures the effect of price level on output. A lower output leads to higher price level hence the downward slope of the AD curve2.

In the short run output can be below or above natural level, which is caused by shifts in AS or AD. An economy is in expansion when the level of production (Y), is above the natural level (Yn) due to increase in economic activities such as increase in investment, consumer or government spending. In this economy the demand for goods and services increases and this causes firms to increase their level of production and labour in order to meet consumer demand. The effect of this increase leads to a higher output, price level, and employment rate.

As shown in graph 1, the short run equilibrium is given by the intersection of the AS and AD curves at point A, where the labour, goods and financial markets are all in equilibrium. The positive gap between Y and Yn is called an expansionary gap and in this economy unemployment rate is low due to increase in firms demand…

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