What causes shifts in aggregate supply and demand curves?

Explanation

Aggregate demand (AD) and aggregate supply (AS) are key concepts in macroeconomics. The AD curve shows the total quantity of goods and services demanded at different price levels, while the AS curve shows the total quantity supplied.

Shifts in these curves occur when factors other than the price level change:

• Aggregate Demand Shifts: Caused by changes in consumer confidence, government spending, taxes, interest rates, or foreign demand.
• Aggregate Supply Shifts: Caused by changes in resource prices (like wages or oil), technology, productivity, or government regulation.

Worked Example

Suppose the government increases its spending by $100 billion. How does this affect the AD curve?

Step 1: Identify the effect

Increased government spending ($G$) is a component of aggregate demand:

$$ AD = C + I + G + (X - M) $$

where:

• $C$ = Consumption
• $I$ = Investment
• $G$ = Government spending
• $X$ = Exports
• $M$ = Imports

Step 2: Show the shift

An increase in $G$ increases $AD$ at every price level. The AD curve shifts rightward.

Step 3: Illustrate with numbers

Suppose initial AD at a certain price level is $1,000 billion. After the increase:

$$ AD_{\text{new}} = AD_{\text{old}} + Delta G = 1{,}000 + 100 = 1{,}100 $$

So, at each price level, the new aggregate demand is $1,100 billion.

Takeaways

• Aggregate demand shifts due to changes in spending, taxes, interest rates, or foreign demand.
• Aggregate supply shifts due to changes in resource costs, technology, or regulations.
• Shifts in these curves change the equilibrium output and price level in the economy.