From Aggregate Demand to Aggregate Supply

We have completed our introductory analysis of the determinants of aggregate demand. We examined the foundations of aggregate demand and saw that AD is determined by exogenous f;J(:tors,such as investment and net exports, along with government policies. such as monetary and fiscal policies. In the short run, changes in these ‘factors lead to changes iI. spending and to changes in both output and  In today’s volatile world, economies are exposed to shocks from both inside and outside their borders.Wars, revolutions, financial and currency crises, oil shocks, defaults, and government miscalculations have led to periods of high inflation or high unemployment or both. No market mechanism provides an automatic pilot that can quickly eliminate macroeconomic fluctuations, and governments therefore take responsibility for moderating the swings of the business cycle. The United States was fortunate in the 1990s to have avoided serious business cycles,but other countries were not so lucky, with prolonged slumps in Japan and much of Europe and periodic financial crises in Latin America and East Asian countries.

These events are a reminder that there is no universal cure to unemployment and inflation in the face of all the shocks to which an economy is exposed. now turn to issues of economic growth, the Open economy, and economic policy. We begin with an analysis of the process of long-run economic growth, which will deepen our understanding of the determinants of potential output and aggregate supply. We next broaden our horizon to include the macroeconomics of international trade and finance.

We then tackle the interrelated topics of inflation and unemployment and see how modern market economies are severely constrained by the need to maintain stable prices. Finally,we return to the pressing dilemmas of macroeconomic policy today fiscal policy and the government debt, the interrelation between fiscal policy and monetary policy, and the need to promote long-term economic growth.

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