Chp 33

Chapter 33 introduces aggregate demand and aggregate supply and shows how shifts in these curves can cause recessions. A period when output and incomes fall, unemployment rises, is known as a recession when it is mild and a depression when it is severe. Three key facts about economic fluctuations is that economic fluctuations are irregular and unpredictable, most macroeconomic quantities fluctuate together, and as output falls unemployment rises (because when firms produce fewer goods and services they lay off workers). Classical theory is based on the dichotomy and money neutrality. Classical dichotomy is the separation of economic variables into real and nominal while money neutrality is the property that changes in the money supply only affect nominal variables not real variables. These assumptions are an accurate description of the economy in the long run but not the short run.Therefore in the short run, changes in nominal variables such as money and prices are likely to have an impact on real variables. Short run nominal and real variables are not independent. As a results, in the short run, changes in money can temporarily move real GDP away from its long-run trend. The model of aggregate supply and aggregate demand can be used to explain economic fluctuations. This model is graphed with the price level, measured by the CPI/GDP deflator on the vertical axis and real GDP on the horizontal axis. Aggregate demand curve shows the quantity of goods and services households, firms, the government and customers abroad wish to buy at each price level. The aggregate supply curve shows the quantity of goods and services that firms produce and sell at each price level. Price level and output adjust to balance aggregate supply and aggregate demand. GDP=C+I+G+NX. A decrease in the price level increases consumption, investment, and net exports.