AD-AS model Essay Example

AD-AS model

The impacts of increasing investment

Investment can be described as an increment in the capital spending in an economy. This can be in term of purchasing new machinery, buildings, or developing new industries and factories. It is a component of the aggregate demand (AD). This implies that an increase in the level of investment will lead to an increase in the level of aggregate demand resulting in a positive economic growth. The country investing in the manufacturing industry and in the defense industry will contribute to an increase in the level of productive capacity. In the long-run, productivity will be very high. This will lead to competitiveness in the economy (Zhang, & Wan, 2005). The other impact of investment is that there will be a balanced economy and current account and capital account will tend to balance.

In the long run, the level of productivity would increase. This will lead to an increase in the level of aggregate supply (AS). Therefore investing in the defense and advance manufacturing industry would result in sustainability in the increase in the level of AD in the country. The other effect of investment is that in the long run, the level of GDP will also be high due to the high per capita income. Consequently, the level of output in the country increases. The general price level in the country will be determined by the AD and AS.

AD-AS model

When the level of investment in the country increases, the level of national income will increase. An increase in the level of income Y leads to an increase in the level of price P. At the initial point the SAS1intersects with AD1 at point A. the wages will as increase and lead to the AD to shift to AD2. Then SAS 1 will intersect with AD2 at point B. an increase in the level of national income will lead to an upward shift of the SAS to SAS2. We regain back to LAS curve (Gillman, 2011). Therefore, in the long run, aggregate supply is vertical.

References

Gillman, M., 2011. Advanced modern macroeconomics: analysis and application. Financial Times Press.

Zhang, Y. and Wan, G., 2005. China’s Business Cycles: Perspectives from an AD–AS Model. Asian Economic Journal19(4), pp.445-469.