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Additional Revision notesChapter 15
Aggregate Supply and Demand

Explaining the shape and slope of the AD curve:
There are three factors which affect this:
1. The Wealth Effect(real balance effect) assuming a nominal stock of money (or money
supply) in an economy:

In price level people's real money balances


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2. Keynesians assumed that the marginal product of labour is constant so when a firm
takes on an extra worker, the extra output produced by the worker is the same as that
produced by all the workers already hired.
These two assumptions mean that the marginal cost
of production remains…

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The vertical LRAS curve
The SRAS curve shows the supply of real output in a time period when costs of production
such as money wage rates remain unchanged. The LRAS curve is vertical because it shows the
potential level of output that the economy is capable of producing. Potential output…

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Milton Friedman argued that economic agents suffer money illusion but only in the short run. An
increase in AD temporarily increases output above its naturak kevek (Yn), but as soon as
workers realise that higher prices mean lower real wage rates, workers refuse to supply the
labour required for output…

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