Between 1929 and 1933, there was a sharp fall in aggregate demand—a reduction in the quantity of goods and services demanded at any given price level. One consequence of the economy-wide decline in demand was a fall in the prices of most goods and services. By 1933, the GDP deflator (one of the price indexes we defined in Chapter 7) was 26% below its 1929 level, and other indexes were down by similar amounts. A second consequence was a decline in the output of most goods and services: by 1933, real GDP was 27% below its 1929 level. A third consequence, closely tied to the fall in real GDP, was a surge in the unemployment rate from 3% to 25%.

The association between the plunge in real GDP and the plunge in prices wasn’t an accident. Between 1929 and 1933, the U.S. economy was moving down its aggregate supply curve, which shows the relationship between the economy’s aggregate price level (the overall price level of final goods and services in the economy) and the total quantity of final goods and services, or aggregate output, producers are willing to supply. (As you will recall, we use real GDP to measure aggregate output. So we’ll often use the two terms interchangeably.) More specifically, between 1929 and 1933 the U.S. economy moved down its short-run aggregate supply curve.