SEMESTER - II
MACROECONOMIC
9. FACTORS DETERMINING EFFECTIVE DEMANDANS
OR
Explain the aggregate demand function AND supply function.
ANS:
According to Keynes, effective demand is determined by the interaction of aggregate demand and supply functions.
A. Aggregate Demand Function
(ADF)
The ADF is a schedule of maximum sales revenue expected to be received by the class of entrepreneurs from the sale of output produced at various levels of employment. It is also known as the demand price. There is a direct relationship between the aggregate demand price and the level of income or employment. Higher the level of real income or employment, higher will be the aggregate demand price and vice-versa. The aggregate demand function is shown in the form of a schedule in Table 2.1 below with the help of a hypothetical data.
The aggregate demand schedule relates real income measured in terms of employment with the flow of expenditure in the economy. The data in Table 2.1 can be graphically plotted to obtain the aggregate demand curve as shown in Fig. 2.1 below.
Fig. 2.1 below shows the aggregate demand curve. It is a positive sloping curve showing direct relationship between the level of employment or real income and the aggregate demand price.
Symbolically,
ADP = f (N)
Where; ADP = Aggregate Demand Price
N = Level of employment, and
f = Functional relationship
B. Aggregate Supply Function
(ASF)
The aggregate supply function schedule shows the minimum expected sales revenue of the class of entrepreneurs from output produced at various levels of employment. The aggregate supply price is the minimum supply price or reserve price which the entrepreneurs must receive from the output produced. It is the cost of production that the entrepreneurs must obtain from the sale of output to continue to remain in business. According to Keynes, the supply price of national output can be measured in terms of labor cost. Accordingly, a hypothetical aggregate supply function schedule is tabulated in Table 2.2 below.
The data tabulated in Table 2.2 above assumes that money wages paid to a worker is Rs.200,000 per annum. The schedule therefore, shows the minimum expected revenue from the sale of output produced at different levels of employment. Thus, to employ one million workers, the entrepreneurs must receive Rs.200 billion i.e., Rs.200,000 X 1000,000 workers. The aggregate supply prices is directly related to the level of employment. Higher the level of employment, higher will be the aggregate supply price and vice versa.
The data given in Table 2.2 is graphically plotted in Fig. 2.2 to obtain the aggregate supply curve.
In Fig. 2.2 above, the X-axis shows the level of employment and Y-axis shows the aggregate supply price. The aggregate supply price curve (ASP) is positively sloping towards the right indicating a direct relationship between the level of employment and the supply price. The ASP curve becomes perfectly inelastic or vertical at the full employment level. In our example, the full employment level is achieved when five million workers are employed. The ASP curve becomes vertical at point ‘F’ as shown in Fig.2.2
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