The AD-AS model Flashcards
Check word document for graphical models of AD-AS shifts
What will happen to output and price if there is a demand shock (increase in demand)
Leads to a rise in output from Y0 to Y1 and a rise in price from P0 to P1
What happens to NX and the multiplier when there is a demand shock
The multiplier will get smaller as the difference between Y1 and Y0 is less than the difference between Y2 and Y0
NX will fall as price levels have risen meaning there is movement up along the new AD curve to the new equilibrium
What will happen in terms of wages if there is a demand shock and subsequent raise in Y
The raise in Y will lead to a raise in P which means that the real wage rate will fall as P will rise while expected prices will stay constant meaning that it is profitable for firms to higher more employees
What effect will a supply shock have on price level and output
Causes them to move in opposite direction a rightward shift in SRAS will decrease price while increasing output and vica versa
What could cause a rightward shift in the SRAS curve
Could be caused by a rise in productivity (phi) or a cut in unemployment benefit (z)
What does the LRAS curve look like and what does Y* represent
The LRAS curve is vertical and Y* is the unique level of output known as: the natural level of output, full employment level of output or the potential level of output
Means there will be a different SRAS curve for every level of Pe
What is the equation for LRAS and what does it become if P=Pe
Check the word document
What is the formula for Y* and how do you get it
Rearranging the LRAS will give the formula for Y* - check word document to see if correct
What happens as the LRAS shifts right
Phi rises
Mew falls
z falls
On the AD-AS model with LRAS, SRAS and AD what does it mean if P<P0
If P<P0 then the desired spending is consistent with a level of GDP that is higher than the desired output of firms
On the AD-AS model with LRAS, SRAS and AD what does it mean if P>P0
If P>P0 then the desired spending is consistent with a level of GDP that is less than the desired output of firms
On the AD-AS model with LRAS, SRAS and AD what does it mean if P>Pe
If P>Pe then P is rising and vica versa
If the model moves away from Y* what will happen and what is it called
If it goes higher then it is an inflationary gap and will always self correct quite quickly
If it goes lower then that is a deflationary gap and this will usually self-correct but may need policy changes in order to be eliminated
What steps can be taken to eliminate a recessionary (output) gap
Recessionary gap is when Y1<Y* and can be corrected through increasing AD which can be done through making a rise in G or a cut in r (which is assumed to increase I)
