How do Aggregate Demand (AD) and Aggregate Supply (AS) determine equilibrium?

Aggregate Demand (AD) and Aggregate Supply (AS) determine equilibrium when they intersect at a particular price level and output level.

In macroeconomics, the equilibrium is the point where the total quantity of goods and services produced (AS) equals the total quantity of goods and services demanded (AD). This occurs at the intersection of the AD and AS curves on a graph. The price level and output at this intersection point are the equilibrium price level and equilibrium output, respectively.

The AD curve represents the total demand for goods and services in an economy at different price levels. It is downward sloping, indicating that as the price level falls, the quantity of goods and services demanded increases. This is due to the wealth effect, interest rate effect, and international trade effect.

On the other hand, the AS curve represents the total supply of goods and services that firms are willing and able to produce at different price levels. In the short run, the AS curve is upward sloping, indicating that as the price level rises, the quantity of goods and services supplied also increases. This is because higher prices increase firms' profits, encouraging them to produce more. In the long run, however, the AS curve is vertical, indicating that the economy's output is determined by its productive capacity, not by the price level.

When the AD and AS curves intersect, the economy is in equilibrium. At this point, the quantity of goods and services demanded equals the quantity supplied, so there is no tendency for the price level or output to change. If the economy is not at this equilibrium point, there will be either an excess supply (surplus) or an excess demand (shortage), which will put pressure on the price level to change and move the economy towards equilibrium.

For example, if the price level is above the equilibrium level, there will be an excess supply of goods and services. This will put downward pressure on prices, causing firms to reduce their output and the economy to move down along the AD curve towards equilibrium. Conversely, if the price level is below the equilibrium level, there will be an excess demand for goods and services. This will put upward pressure on prices, causing firms to increase their output and the economy to move up along the AD curve towards equilibrium.