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The Phillips curve equation can be derived from the (short-run) Lucas aggregate supply function. The Lucas approach is very different from that of the traditional view. Instead of starting with empirical data, he started with a classical economic model following very simple economic principles. Start with the aggregate supply function:
This causes a sudden and sustained drop in aggregate demand, and this shock is argued to be the proximate cause of a class of economic crises, properly financial crises. Indeed, a fall in the level of debt is not necessary – even a slowing in the rate of debt growth causes a drop in aggregate demand (relative to the higher borrowing year). [9]
Consumption is an affine function of income, C = a + bY where the slope coefficient b is called the marginal propensity to consume. If any of the components of aggregate demand, a, I p or G rises, for a given level of income, Y, the aggregate demand curve shifts up and the intersection of the AD curve with the 45-degree line shifts right ...
When a non-price determinant of demand changes, the curve shifts. These "other variables" are part of the demand function. They are "merely lumped into intercept term of a simple linear demand function." [14] Thus a change in a non-price determinant of demand is reflected in a change in the x-intercept causing the curve to shift along the x ...
In the standard aggregate supply–aggregate demand model, real output (Y) is plotted on the horizontal axis and the price level (P) on the vertical axis. The levels of output and the price level are determined by the intersection of the aggregate supply curve with the downward-sloping aggregate demand curve.
Starting from one point on the aggregate demand curve, at a particular price level and a quantity of aggregate demand implied by the IS–LM model for that price level, if one considers a higher potential price level, in the IS–LM model the real money supply M/P will be lower and hence the LM curve will be shifted higher, leading to lower ...
Formally: [1] consider an economy with consumers, each of whom has a demand function that depends on his income and the price system: (,) The aggregate demand of society is, in general, a function of the price system and the entire distribution of incomes:
The intercept of the curve and the vertical axis is represented by a, meaning the price when no quantity demanded. and b is the slope of the demand function. If the demand function has the form like that, then the Total Revenue should equal quantity demanded times the price of the good, which can be represented by: TR= q*p = q(a-bq).