AD-AS Model Flashcards
For AD-AS model, what are the labels for the
- X-Axis
- Y-Axis
- X-Axis: real GDP
2. Y-Axis: Price
What does the AD-AS model stand for?
Aggregate Demand-Aggregate Supply
What does the AD-AS model show?
Phases of the business cycle and how different events can lead to changes in real GDP and inflation
What is SRAS?
How does it appear on the AD-AD model?
Short Run Aggregate Supply curve
Slopes upward on AD-AS model
How does the AD/Aggregate Demand curve appear on the AD-AS model?
Downward sloping
What is LRAS?
How does it appear on the AD-AD model?
Long Run Aggregate Supply curve.
Vertical line at full employment output.
What are two metrics that can be determined at the equilibrium point on the AD-AS model?
Equilibrium price level Equilibrium output (RGDP)
Why is the SRAS curve upward sloping, while the LRAS is vertical?
In the short run, supply does temporarily respond to changes in price/cost. Quantity increases when price rises.
In the long run, only capital/labor/technology affect aggregate supply because economy is assumed to be functioning optimally. Supply will be the same at any level of demand, but changes in capital/labor/technology will shift the entire curve to a new real GDP.
What is the difference between a supply curve shift and moving up/down the curve?
Movement up/down the curve changes at different levels of price (and for SRAS curve, different levels of AD).
A shift is supply curve occurs due to a change in costs/price, such as an increase in raw material price or labor wage cost.
On the AD-AS model, how will higher oil prices affect a SRAS curve?
It would shift the entire curve to to the left, because the same quantity of output will be at a higher price level.
On the AD-AS model, how will higher Aggregate Demand affect a SRAS curve?
There will be upward-right movement along the upward sloping curve, with a new equilibrium point where AD meets SRAS. The SRAS does not shift.
What factors affect the LRAS curve?
All factors of production
- Size of workforce
- Size of capital stock
- Education of workforce
- Labor productivity
Does growth in the size of the labor force affect SRAS or LRAS?
How does it affect it?
LRAS
This would shift the LRAS curve to the right
Do increased labor wage costs affect SRAS or LRAS?
How does it affect it?
SRAS
This would shift the SRAS curve to the left
What is the difference between the Classical vs. Keynesian view of the LRAS curve?
Classical: LRAS is vertical (inelastic) at potential real GDP
Keynesian: LRAS is elastic (horizontal, then upward sloping) up to potential real GDP, at which point it becomes vertical/inelastic. In other words, there is spare capacity of supply up to a point, at which capacity is reached.
What is it called when the equilibrium point of SRAS/AD is to the left of the LRAS vertical curve? What is happening in this scenario?
Output gap
Economy in the graph is in a recession
(picture an “x” draft on the graph, with a vertical line to the right of the intersection point of the x. Horizontal distance is the output gap)
Where is LRAS on the AD-AS model?
At full employment output
What does long-run equilibrium look like on an AD-AS model?
An “x” where SRAS and AD meet, and LRAS running vertically through the intersection. This represents SRAS and LRAS equilibrium with AD at the same point, at full employment output.
What is happening when the equilibrium point of SRAS/AD is to the right of the LRAS vertical curve?
An economy is (short run) producing beyond full employment output.
What are the three “zones” on a supply curve in a Keynesian AD-AS model?
- Keynesian zone (lower left, flatish curve)
- Intermediate zone
- Neoclassical zone (upper right, line trends vertical)
On a Keynesian AD-AS model, where does the intermediate zone shift to the neoclassical zone?
At potential GDP/full employment output.
What is Keynes Law? Why does this result in a sloping AS curve on a Keynesian AD-AS model vs. vertical AS curve on neoclassical?
Keynes Law: demand creates its own supply
Changes in aggregate demand cause changes in real GDP and employment (whereas the neoclassical model states that aggregate demand has no effect on LRAS)
Keynesian Zone of Keynesian AS-AD model
Left/flat side of the curve
Movements in AD affect output, but little effect on price/inflation. Associated with high unemployment, unused fixed assets, and recession.
Neoclassical Zone of Keynesian AS-AD model
Right/vertical side of the curve
Movements in AD affect price/inflation, but little effect on output.
Say’s Law
Supply creates its own demand
Which law is associated with the Neoclassical Zone of the AS curve?
Say’s Law
“supply creates its own demand”, so changes in aggregate demand affect price but not output
Which law is associated with the Keynesian Zone of the AS curve?
Keynes’ Law
“demand creates its own supply”, so changes in aggregate demand affect output but not price
What occurs in the Keynesian Zone of the AD-AS model?
Equilibrium level of real GDP is far below potential GDP.
Recession, high unemployment, low inflation.
What occurs in the Intermediate Zone of the AD-AS model?
GDP output is just below potential GDP. A shift in aggregate demand will either increase unemployment & decrease inflation, or decrease unemployment & increase inflation.
What occurs in the Neoclassical Zone of the AD-AS model?
Equilibrium level of real GDP is at/near potential GDP. Unemployment is low, price/inflation could be a concern.
Which may occur in the Neoclassical Zone of the AD-AS Keynesian Model:
- structural unemployment
- cyclical unemployment
- both
- neither
Structural Unemployment.
Cyclical unemployment is low, because output is performing at or near full employment. Economy is not in recession.
Which may occur in the Keynesian Zone of the AD-AS Keynesian Model:
- structural unemployment
- cyclical unemployment
- both
- neither
Both.
There is always some level of (natural) Structural Unemployment.
In the Keynesian Zone of the supply curve, the economy is in recession so Cyclical Unemployment will be high.
