It has been claimed that even a parrot can become an economist. Teach a parrot to say "supply and demand," and it can answer any question on economics! Throughout this book analyses of the forces of supply and demand are used to produce explanations of economic phenomena, but for the most part are not formalized via graphical representations. The purpose of this appendix is to allow interested readers to see how the forces of supply and demand are illustrated diagrammatically, and, in particular, to provide some perspective on how a traditional microeconomic diagram is employed in a macroeconomic context.
To this end, we begin by explaining the three fundamentals of microeconomic supply-and-demand analysis via a supply/demand diagram: the concept of an equilibrium; how the forces of supply and demand push a market to an equilibrium position; and the difference between a movement along a supply or demand curve and a shift in such a curve. Readers already conversant with microeconomic supply-and-demand curves may wish to skip this exposition and move directly to the section "Macroeconomic Markets."
Then, we explain supply/demand diagrams representing each of the four major macro-economic submarkets that interact to determine the character of the macroeconomy. Finally, we explain how activity in the four markets can be consolidated into a single diagram that summarizes and thereby avoids much curve-shifting associated with these markets' interaction. This final diagram the aggregate-supply/aggregate-demand diagram offers a summary picture of overall macroeconomic activity and is, for this reason, adopted in this book to aid exposition of macroeconomic behavior.
Supply/demand diagrams list a quantity of some good or service on the horizontal axis and its price on the vertical axis. As price varies, the demand curve traces out the quantity of the good or service people want to buy in a particular market, other things remaining the same (ceteris paribus). The supply curve traces out the quantity of the good or service that people/ firms want to supply to this market as the price changes, ceteris paribus.