The Keynesian long run AS curve Flashcards
What is aggregate supply?
Shows the relationship between the total supply of goods and services at different price levels in an economy.
What is long run aggregate supply?
Shows the effect of the long run time period on the aggregate supply curve.
When did the keynesian school begin?
An approach to managing the economy in the 1930s.
Who is Keynesian school associated with?
John Maynard Keynes.
Who are some new Keynesian economists?
1) Joseph Stiglitz.
2) Paul Krugman.
What is the central belief of Keynesian economics?
The role of government intervention to manage the economy.
What are the three parts of the keynesian LRAS curve?
1) Elastic or horizontal section.
2) Intermediate section.
3) Full employment section.
What is happening in the horizontal or elastic section of the curve?
1) At Y1 the economy is at severe recession or economic depression. Output is significantly below full employment output. There is mass unemployment. There is plenty of spare capacity in unused resources. Factories are idle and shops are empty. The price level is at P1.
2) At Y2 the economy is now producing more goods and services. The economy is now producing more goods and services. Unemployment falls as businesses employ more workers. Capacity falls as factories start being used. However, businesses can increase output without incurring cost increases. They can employ more workers at the same wage rate as unemployment is still high. There are still plenty of factories and resources available. Businesses do not incur higher costs per unit. Therefore businesses do not need to raise prices so the price level remains at P1 even though output has increased.
What happens in the intermediate section?
1) At Y2, the output of goods and services is increasing. Capacity in the economy starts to fall as unemployment falls and factories start to be used. Although some shops and factories are still empty, businesses find that their unit costs are increasing because they are having to pay higher costs to get skilled workers or vital raw materials so they have to raise prices by a small amount to P2.
At Y3, output is still increasing. Capacity in the economy is reducing and unemployment is now very low. Businesses are having to pay higher wages to attract all workers. Factory space and raw materials ae harder to find so businesses must pay higher costs. As costs increase, businesses increase their prices so the price level rises P3.
What happens in the full employment section?
At Y3, there is very little spare capacity or unemployed workers. If businesses increase output, they must pay higher wages and costs for rent and materials. Therefore the price level is at P3.
At Y4, the economy has reached full employment output. It is impossible to increase output with the current resources. Any attempt to increase output beyond Y4 would result in higher costs and prices above P4.
What is the Keynesian of view of an economy going into a recession?
They believe that as the economy goes into a recession, output falls from Yfe to Y2. The prices level falls from P1 to P2.
There is more spare capacity in the economy. Workers must accept lower wages because there is more unemployment in the economy. The prices of raw materials fall because there is a surplus of materials.
The process continues until output falls to Y4. When output falls to Y4, the price level is at P4. However, when output falls to Y5, the price level stays at P4. The price level has levelled out at P4. This because at a certain point, workers will not accept lower wages.
Why wont employees except low wages at a certain point?
1) Minimum wage stops wages falling below a certain level.
2) Trade union power on behalf of workers stops wages falling below a
certain level.
3) The benefit system means workers would withdraw from the labour market rather than accept wages below a certain level.
