The first of the infamous curve-shifting diagrams to which macroeconomics students are introduced is the 45 -line diagram, designed to illustrate the elements of Keynesian analysis. All points on a 45 line are equidistant from both axes. In figure 4.4 the 45 line is labeled AD = AS because everywhere along that line, aggregate demand for goods and services (measured on the vertical axis) is equal to aggregate supply of goods and services (measured on the horizontal axis). Such points are possible equilibrium positions.
We begin with an economy represented by the aggregate expenditure line AE1, showing how increases in income (Y) increase aggregate demand for goods and services through the consumption function (i.e., as income increases consumption, demand increases). This implies that the economy will be at position A, corresponding to income level YA.
This result can be verified by choosing an income level smaller than YA and seeing that aggregate supply will be smaller than aggregate demand (because at that income level the AE1 line is above the 45 line), so that income will rise. Similar reasoning shows that at an income level greater than YA aggregate supply exceeds aggregate demand and income will fall. It may seem odd to call the AE line an aggregate expenditure line rather than an aggre-
Figure 4.4 The 45 -Line Diagram Government spending is increased by DG, shifting AE1 up to AE2, moving the economy ultimately from A to AA, increasing income by DY.
