AD and AS Flashcards
7 macroeconomic indicators
-unemployment
-rate of economic growth
-annual increase in consumer prices
-trade performance in the global economy
-GDP per capita
-gov finances
-social indicators ( inequality levels )
classical SRAS
-affected by costs of production
-wages are FIXED
-sloping supply curve
classical LRAS
-affected by quality and quantity of FOPs
-wages are variable
-at full level of output
Draw a deflationary gap
check p1
Explain the deflationary gap
-a decrease in AD eg. investment
-shifts AD inwards to AD2
-Need to shift SRAS outward to meet new equilibrium
-can only do this by decreasing wages but we cant do that in the short run
-PL drop to P2
-YFE shifts inward to Y2
-unemployment and lower output from the deflationary gap means wages naturally decrease.
-SRAS meets new equilibrium
Draw an inflationary gap
check p2
Explain the inflationary gap
-AD shifts outward because of eg, increase in investment
-YFE shifts outward to Y2
-wages are still fixed in the short run but output has increased
-this means people are working longer hours or overtime OR frictional, structural or seasonal employment decreases
-unsustainable !
-eventually SRAS shifts inward because of demand for higher wages, this increases costs of production
-p1 to p2 is cost push inflation
-p2 to p3 is demand pull inflation
-conclusion:
output increases and unemployment decreases past natural rate, this only causes inflation
-how to increase economic growth without inflation? SUPPLY SIDE POLICIES
Keynesian model comparison to classical economics
-wages are sticky
-workers don’t want to decrease wages, especially in recession
-this just causes social unrest
-we need to use fiscal policy to increase AD in times of a recession
Draw the Keynesian model
p3
Explain this model
Y1 needs to be at YFE
-therefore we need to increase AD to meet YFE
-change factors which affect AD
-fiscal policy
-eg, reduce income and corp tax & increase gov spending
-this way we don’t cause inflation
