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Equilibrium in the aggregate demand/aggregate supply model

The intersection of the aggregate supply and aggregate demand curves shows the equilibrium level of real GDP and the equilibrium price level in the economy. At a relatively low price level for output, firms have little incentive to produce, although consumers would be willing to purchase a high quantity. As the price level for outputs rises, aggregate supply rises and aggregate demand falls until the equilibrium point is reached.

[link] combines the AS curve from [link] and the AD curve from [link] and places them both on a single diagram. In this example, the equilibrium point occurs at point E, at a price level of 90 and an output level of 8,800.

Aggregate supply and aggregate demand

The graph shows a downward sloping aggregate demand curve that intersects with an upward sloping aggregate supply curve at the point (8,800, 90).
The equilibrium, where aggregate supply (AS) equals aggregate demand (AD), occurs at a price level of 90 and an output level of 8,800.

Confusion sometimes arises between the aggregate supply and aggregate demand model and the microeconomic analysis of demand and supply in particular markets for goods, services, labor, and capital. Read the following Clear It Up feature to gain an understanding of whether AS and AD are macro or micro.

Are as and ad macro or micro?

These aggregate supply and aggregate demand model and the microeconomic analysis of demand and supply in particular markets for goods, services, labor, and capital have a superficial resemblance, but they also have many underlying differences.

For example, the vertical and horizontal axes have distinctly different meanings in macroeconomic and microeconomic diagrams. The vertical axis of a microeconomic demand and supply diagram expresses a price (or wage or rate of return) for an individual good or service. This price is implicitly relative: it is intended to be compared with the prices of other products (for example, the price of pizza relative to the price of fried chicken). In contrast, the vertical axis of an aggregate supply and aggregate demand diagram expresses the level of a price index like the Consumer Price Index or the GDP deflator—combining a wide array of prices from across the economy. The price level is absolute: it is not intended to be compared to any other prices since it is essentially the average price of all products in an economy. The horizontal axis of a microeconomic supply and demand curve measures the quantity of a particular good or service. In contrast, the horizontal axis of the aggregate demand and aggregate supply diagram measures GDP, which is the sum of all the final goods and services produced in the economy, not the quantity in a specific market.

In addition, the economic reasons for the shapes of the curves in the macroeconomic model are different from the reasons behind the shapes of the curves in microeconomic models. Demand curves for individual goods or services slope down primarily because of the existence of substitute goods, not the wealth effects, interest rate, and foreign price effects associated with aggregate demand curves. The slopes of individual supply and demand curves can have a variety of different slopes, depending on the extent to which quantity demanded and quantity supplied react to price in that specific market, but the slopes of the AS and AD curves are much the same in every diagram (although as we shall see in later chapters, short-run and long-run perspectives will emphasize different parts of the AS curve).

In short, just because the AD/AS diagram has two lines that cross, do not assume that it is the same as every other diagram where two lines cross. The intuitions and meanings of the macro and micro diagrams are only distant cousins from different branches of the economics family tree.

Questions & Answers

how does one analyze a market where both demand and supply shift
Reymark Reply
explain and justify the effect of the event to the demand and supply for direction then apply the elasticity concepts for extent , support with diagrams
samantha
objective of macro economic
saroj Reply
give the characteristics of good money?
Chok Reply
suppose that there is a positive aggregate demand shock. what graph most accurately show how this would affect the aggregate demand-aggregate supply model?
Shielyn Reply
ppf and ad/as
jax
PPF , AD/AS
Shubham
Every Work must be done properly based on its Feasibility Studies duly prepared.
Pundato
why is it desirable for a country to have a large gdp? give an example of something that would raise gdp and yet be undesirable
JAWAD
if there is advance technology in the fishing industry, how will this change in supply and demand
El Reply
yes
Shehazahd
increase Supply, since technology in fishing will increase the efficiency of fishing , higher productivity and thus lower per unit cost of production, which incentive producers to increase their supply. demand wise, not so sure. depends on what exactly is the advancement in tech.
samantha
how many types of natural rate of unemployment
Trina Reply
what is macro economic
muniira Reply
in the year 1933, Ragnar Frisch used the term macro
Ammu
factors that determine the country material standard ?
Serena Reply
population divide by gdp in currency analysis
Aniyikayekenny
what is the important of studying economics
Akurugu Reply
economics teaches you how to think not what think
umer
in order to know how our country operates and corporate with other countries based on the international marketing and to know how our economy is doing regarding incomes going in and out through exchange of goods and services,we have to study more about economics to gain more and better understanding
Betty
important studying economic is make a choice under the condition of scarcity
cafifo
why is it desirable for a country to have a large gdp? give an example of something that would raise gdp and yet be undesirable
JAWAD
High GDP is good as it serves as an indicator of strong economic performance which would affect confidence in an economy, and affect living standards of citizens in the economy.
samantha
Me believes in GNP as an indicator bcoz no country tries to export products and services successfully. No government agrees of inter-regional jurisdiction to save guard investments.
Tan
I do agree with u on this. As far as I am aware of, theorically, both GDP and GNP are indicators of economic growth. but GNP is technically more accurate.
samantha
is labour a intermediate good or final good
umer Reply
what is economics
Mahamed Reply
Economic is science, which Studies human behaviour and who they are earn and spend
Ammu
economics is the science which shows how can use scare resources among society
umer
economic is a science which study human behavior as a result relationship between ends at scarce means which have more than one use
Jovert
simply, economics is a science which studies human wants,
Saeed
Economy is knowledge of choice
Omid
how to derive the equation for the equilibrium level of national income in an open economy with no taxes
loise Reply
what is inflation?
Herry Reply
when price goes up with some shottime
umer
Give me 5 example for Macro economics
Neha Reply
1. Markets 2. Market Failure 3. Competition 4. Price Stability 5. Efficiency
Luyando
please can you explain markets and markets failure ?
Timothy
When we talk about Markets as an example of macroeconomics, we look at demand and supply in labor market.
Luyando
Then for market failures, we focus on market inefficiencies and failures such as the destruction of common goods due to economic systems that provide no incentive for their preservation
Luyando
Who is a discourage worker.?
Timothy
a discourage worker is simply a worker who stop looking for a job because he/she believe no job is available for them..
Joseph
sloping curve normal
Mirasol Reply
A normal sloping curve
Mirasol
State what happen to the aggregate supply curve for beef. The price of beef decrease
Mirasol
i think there is positive relationship between price n supply so as the price decreases the supply curve so decreases and vice versa
Dharani
quantity supply will decrease,less.profit for firms in a perfectly competitive market i guess
Joseph
yaa
Dharani

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Source:  OpenStax, Macroeconomics. OpenStax CNX. Jun 16, 2014 Download for free at http://legacy.cnx.org/content/col11626/1.10
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