Equilibrium occurs at the price level that equalizes the amount of real output demanded and supplied

1

Real OutputDemanded(billions)

Price Level(indexnumber)

Real OutputSupplied(billions)

$506 108 513

508 104 512

510 100 510

512 96 505

514 92 502

©2013 McGraw-Hill Ryerson Ltd. Chapter 10.3

Real domestic output, GDP(billions of dollars)

Pri

ce level (i

nd

ex n

um

bers

)

100

92

502 510 514

ab

AD

ASReal

Output Demanded(Billions)

Price Level(Index

Number)

Real Output

Supplied(Billions)

$506 108 $513

508 104 512

510 100 510

512 96 507

514 92 502

0

2©2013 McGraw-Hill Ryerson Ltd. Chapter 10.3

For any initial increase in aggregate demand, the resulting increase in real output will be smaller the greater is the increase in the price level

Demand-pull inflation

3©2013 McGraw-Hill Ryerson Ltd. Chapter 10.3

Real domestic output, GDP

Pri

ce level

AD1

AS

P1

P2

GDP2GDP1GDPf

AD2

0

4©2013 McGraw-Hill Ryerson Ltd. Chapter 10.3

Deflation, a decline in the price level, is a rarity in the Canadian economy

Real output takes the full brunt of the decline in AD because product prices are “sticky” in the short run fear of price wars menu costs wage contracts morale, effort, & productivity minimum wage menu costs fear of price wars

5©2013 McGraw-Hill Ryerson Ltd. Chapter 10.3

Real domestic output, GDP

Pri

ce level

AD1

AS

P1

P2

GDP1 GDP2GDPf

AD2

c

ab

0

6©2013 McGraw-Hill Ryerson Ltd. Chapter 10.3

Effects of a leftward shift in AS are doubly bad output decreases price level increases

7©2013 McGraw-Hill Ryerson Ltd. Chapter 10.3

Real domestic output, GDP

Pri

ce level

AD

AS1

P1

P2

GDP1 GDPf

AS2

a

b

0

8©2013 McGraw-Hill Ryerson Ltd. Chapter 10.3

Increases in AD should normally lead to inflation

In the late 1990s, productivity growth has shifted the long-run AS curve to the right

Economy slowed down in 2001 due to a substantial fall in investment spending

During 2002-2006 economy rebounded but followed by the recession of 2008-2009.

9©2013 McGraw-Hill Ryerson Ltd. Chapter 10.3

Real domestic output, GDP

Pri

ce level

AD1

AS2

P1

P2

GDP2GDP1

AS1

b

AD2

c

P3

GDP3

a

0

10©2013 McGraw-Hill Ryerson Ltd. Chapter 10.3