Aggregate Supply and Aggregate Supply
Aggregate Demand &
Aggregate Supply.
Bring expenditure and production capacity into one framework. Explore how demand shocks, supply shocks and long-run potential jointly determine real output and the price level.
Observe
Watch output and prices together.
A shock can change both
production and the price level.
A collapse in confidence reduces spending and output while easing price pressure. An energy disruption raises firms’ costs, reducing output while increasing prices. The AD–AS framework separates these fundamentally different disturbances.
Did planned expenditure change, or did the economy’s cost and productive capacity change?
Think
Connect three curves.
Demand determines spending;
supply determines feasible response.
Aggregate demand slopes downward in price-level–output space through wealth, interest-rate and international-competitiveness channels. SRAS slopes upward because some wages and prices adjust slowly. LRAS marks potential output determined by resources, technology and institutions.
Planned demand
C + I + G + X − M at alternative price levels.
Short-run production
Output supplied while some input prices remain sticky.
Potential output
Sustainable capacity after full nominal adjustment.
Analyse
Shift demand and supply.
Run an interactive
AD–AS economy.
Adjust the demand index and supply-cost index. The graph recalculates the short-run equilibrium relative to potential output of 100.
AD–AS laboratory
INTERACTIVE MACRO SHOCKS
The benchmark economy is at potential output.
Apply
Diagnose the policy problem.
Different shocks require
different responses.
A negative demand shock lowers both output and the price level, so demand support can move both objectives in a favourable direction. A negative supply shock creates stagflation—lower output with higher prices—forcing a difficult policy trade-off.
Recessionary demand
Confidence, investment or exports fall. Output and prices decline.
Demand stabilisation may support recovery.
Stagflation
Energy or input costs rise. Output falls while prices rise.
Policy must balance inflation and activity.
Closing a negative gap
Wage and price adjustment or expansionary demand can return output toward potential.
Shifting LRAS
Investment, skills, innovation and institutions increase sustainable productive capacity.
Decide
Identify the shock.
Which event creates
stagflation?
Consider an economy initially producing at potential output.
MACROECONOMICS · MODULE 06 COMPLETE
You can now diagnose
macroeconomic shocks.
Aggregate demand explains planned spending, SRAS captures short-run cost conditions, and LRAS identifies sustainable capacity. Their interaction reveals output gaps, inflation pressure and policy trade-offs.
