Determination of price level, Macroeconomics

P and Y are both endogenous variables and according to the quantity theory of money we need P.Y = constant. If we divide both sides by P we get Y = constant / P. Because Y = YD in the classical model, we can write YD = constant / P. This relationship is sometimes known as 'classical aggregate demand' as it relates real aggregate demand for services and goods YD to the price level P. 

1868_Determination of price level.png

Figure: Determination of price level.

Though it is significant to remember that it isn't price adjustments which make aggregate demand equal to aggregate supply in the chart above. Aggregate demand is always equal to aggregate supply by Say's Law. In the classical model, YD isn't determined by P though rather the opposite; P is determined by YD (that is equal to YS) and money supply (which is included in the constant).

Posted Date: 8/14/2013 2:17:21 AM | Location : United States

Your posts are moderated
Related Questions
Compare Money with wealth and income Money isn't the same as wealth. An individual may be very wealthy however have no money (for instance by owning stocks and real estate). An

What is the size of the labor force if the unemployment rate is 6%, the population is 300 million, and the number unemployed is 6 million

Using the equilibrium in the labor market and the model IS-LM explain the different behavior described by the classic and keynessian schools when there is an increase in public spe

There are three firms in an economy: A, B, and C. Firm A buys $450 worth of goods from firm B and $260 worth of goods from firm C, and produces 260 units of output, which it sells

Assume that the demand for running shoes is highly inelastic and the supply curve for running shoes is highly elastic. Suppose that the tastes of the exercising public shift away f

Consider two bonds. Each has a face value of $100 and matures in one year. One has a zero coupon payment, and the other pays $10 per year. A. Explain how the two bonds differ

It refers to the study of feasibility of a project in terms of its total economic cost and total economic advantages. It means to compare total cost with total advantage if we

Granting a loan: When commercial banks lend, they create money. This can be explained by extending the hypothetical example of Bank

What is the impact on the economy if price ceiling or price floor were removed? Ans) Price ceiling is government system or laws setting price floors or ceilings that forbid the