Unit 5 Notes - April 7th, 2016

Extending the Analysis of Aggregate Supply

SRAS: In macroeconomics, this is the period in which wages (and other input prices) remain fixed as price level increases or decreases.

LRAS: The period of time in which wages have become fully responsive to changes In proce level.

Effects over Short-Run

·         In the short run, price level changes allow for companies to exceed normal outputs and hire more workers because profits are increasing while wages remain constant.

·         In the long run, wages will adjust to the price level and previous output levels will adjust accordingly.

Equilibrium in the Extended Model

·         The extended model means the inclusion of both the short run and long run AS curves.

·         The long run AS curve is represented with a vertical line at the full employment level of real GDP.

Demand Pull Inflation in the AS Model

·         Demand Pull prices increase based on increases in AD

·         In the short run, demand pull will drive up prices and increase production

·         In the long run, increases in AD will eventually return to previous price levels.

Cost Push and the Extended Model

·         Cost Push arises from factors that will increase per unit costs such as increases in the price of a key resource.

·         Short run shifts left. In this case, it is the cause of the price level increase, not the effect.

Dilemma for the Government

·         In an effort to fight cost push, the government can react in two different ways.

o   Actions such as spending by the government could be an inflationary spiral.

o   No action however could lead to a recession by keeping production and employment levels declining.