Aggregate Equilibrium Macroeconomic Theory Recessionary Gap Inflationary Gap
Aggregate Equilibrium Macroeconomic Theory
Recessionary Gap Inflationary Gap Economy below full output Economy above full output LRAS 1 Price Level SRAS 1 Price Level ------ E 1 ----- P 1 Y 1 AD 1 Y* Real GDP Unemployment high, real output low Below PPF, Actual Px level < Expected --------- P 1 LRAS 1 1 Y* Y SRAS 1 E 1 AD 1 Real GDP Unemployment very low, output high Above PPF, Actual Px level > Expected
Short Run Equilibrium • In short run, a shift in AD will cause changes in real GDP, Unemployment & price level • Reason: Prices & Wages are sticky – expected price level LAGS actual price level – This allows recessionary & inflationary gaps Note: you are graphing actual price level
Long Run Equilibrium • In long run, AD shifts do not affect real output (or employment) – Prices/wages become perfectly flexible in long run – Actual price level must equal expected price level – Will always be at full potential output (full employment)
LONG RUN EQUILIBRIUM IN A LONG RUN EQUILIBRIUM: 3 Things must be true: 1) Expected Price Level = Actual Price Level 2) Employment = Full Employment 3) Real GDP = Full Potential Output (on PPF) Equation from Textbook (you do not need to understand this…. ) Quantity Supplied = Natural rate of Output + a( Actual Px ( Level Expected Px) Level )
Manipulating AD/AS Worksheet
Example: Stock Market Crash 2 - causes output to fall in short run. . . Short run —Step 1 & 2 Price Level Long Run– Step 3 & 4 LRAS SRAS 1 SRAS 2 3. . but over time, SRAS shifts as expected level falls. Price. A P B P 2 1 -Decrease in AD P 3 C AD 2 0 Y 2 AD 1 . Real GDP Y 4. . and output returns to its natural rate.
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