Applications of Aggregate Supply and Demand

As we observed back in Chapter 15, many economic models are more like maps than like the theories of physics. Unavoidably, in economic models, we have to leave out some detail. That means an economic model may not be "true" or "false" in any simple sense. What detail we include depends on the purposes we have in mind. Some details may be exaggerated, and others diminished, if that will make the model more useful. As with a map, the purpose is to understand reality, and the ultimate test is whether it helps us to do that. Now and then, including some plain falsehood may help, as when maps make the roads seem much wider on the map than they are in reality.

The Aggregate Supply -- Aggregate Demand (AS/AD) model is that sort of model. Complex as it is, it is radically more simple than the national economy it represents. It leaves out many details that could be important for other purposes. It is designed to help us find out way around the macroeconomy and understand how it changes and where it might go next. It distorts a few things in the hope of making the important things more clear.

Anyway, that is what the AS/AD model is meant to do. As with a map, the test is in the use of it. Can it help us to navigate the complexities of a modern national and global economy? In this chapter we look at a few examples to test it out.

We have just spent several chapters of dry theory developing the details of the AS/AD approach, and some of those details are important for this chapter. However, applications and issues are always more interesting than dry theory, so I will try to make this chapter self-contained enough so that it can be understood without dragging through all of the detail.

An Increase in Aggregate Demand