Transcript Chapter 11

Macro
McEachern
2011
ECON
11
2010-
CHAPTER
Designed by
Amy McGuire, B-books, Ltd.
Chapter 11
Aggregate
Supply
Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved
Labor and Aggregate Supply
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Labor
70% of production costs
Supply of labor
Size/abilities of adult population
Preferences for work vs. leisure
Higher wage – More labor supplied
Higher price level
The less the money wage purchase
The less attractive the wage
LO1
Chapter 11
Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved
Labor and Aggregate Supply
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Nominal wage
Money wage
Real wage
In constant dollars
Negotiation
Expected price level
LO1
Chapter 11
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Natural Rate of Unemployment
Natural rate of unemployment
Unemployment rate when
Potential output
No cyclical unemployment
Some frictional, structural, and seasonal
unemployment
– 4-6%
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LO1
Chapter 11
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Actual Price Level is Higher than
Expected
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Price level > expected
Higher profit per unit
Increase production
Economy’s output > potential
Unemployment < natural rate
Increased per-unit production cost
Marginal cost increases
The price level rises faster
LO1
Chapter 11
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LO1
Exhibit 1
Short-Run Aggregate Supply Curve
Price
level
Potential
output
SRAS130
140
130
a
120
0
Chapter 11
14.0
The SRAS curve is based on a
given expected price level, in this
case, 130. Point a shows that if the
actual price level equals the
expected price level of 130,
producers supply potential output.
If the actual price level is below
130, firms supply less than
potential. Output levels that fall
short of the economy’s potential are
shaded red; output levels that
exceed the economy’s potential are
shaded blue.
Real GDP
(trillions of dollars)
Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved
LO2
Exhibit 2
Long-Run Adjustment When the Price Level
Exceeds Expectations
Price
level
Potential output
LRAS
140
SRAS140
SRAS130
c
b
135
130
a
0
14.0
Chapter 11
AD
14.2 Real GDP
(trillions of dollars)
Expected price level=130, SRAS130
If actual price level turns out as
expected, the quantity supplied =
potential output of $14 trillion.
Given the AD curve, price level >
expected; output exceeds potential
(b); expansionary gap.
In the long-run, price-level
expectations and nominal wages will
be revised upward. Costs will rise
and the SRAS curve shifts leftward
to SRAS140. Eventually, the economy
will move to long-run equilibrium (c),
thus closing the expansionary gap.
Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved
LO2
Exhibit 3
Price
level
Long-Run Adjustment When the Price Level
Is Below Expectations
Potential output
LRAS
SRAS130
SRAS120
a
130
125
120
d
e
AD”
0
Chapter 11
13.8 14.0
Real GDP
(trillions of dollars)
Actual price level < expected
(intersection of AD” with SRAS130);
short-run equilibrium: (d). Production
below economy’s potential opens a
contractionary gap.
If prices and wages are flexible
enough in the long run, nominal wages
will be renegotiate lower. As resource
costs fall, the short-run aggregate
supply curve eventually shifts
rightward to SRAS120 and the economy
moves to long-run equilibrium at (e),
with output increasing to the potential
level of $14.0 trillion.
Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved
Tracing Potential Output
Economy’s potential output
Long-run aggregate supply curve, LRAS
Depends on
Supply of resources in economy
Level of technology
Production incentives
Long-run equilibrium
Output = LRAS = potential output
Price level: depends on AD curve
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LO2
Chapter 11
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LO2
Exhibit 4
Long-Run Aggregate Supply Curve
Price
level
Potential output
LRAS
140
b
130
a
120
c
AD”
0
Chapter 11
14.0
AD’
AD
Real GDP
(trillions of dollars)
In the long run, when the actual
price level equals the expected
price level, the economy produces
its potential. In the long-run, $14.0
trillion in real GDP will be supplied
regardless of the actual price level.
As long as wages and prices are
flexible, the economy’s potential
GDP is consistent with any price
level. Thus, shifts of the aggregate
demand curve will, in the long-run,
not affect potential output. The
long-run aggregate supply curve,
LRAS, is a vertical line at potential
GDP.
Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved
Wage Flexibility and
Employment
Expansionary gap
Labor shortage
Higher nominal wage
Higher price level
Contractionary gap
Nominal wages = “sticky” downward
Slow to close
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LO2
Chapter 11
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Effect of a Gradual Increase in
Resources on Aggregate Supply
LO3
0
Chapter 11
LRAS’
A gradual increase in the
supply of resources
increases the potential GDP
– in this case, from $14.0
trillion to $14.5 trillion.
Price level
Exhibit 5
LRAS
The long-run aggregate
supply curve shifts to the
right.
14.0
Real GDP
14.5
(trillions of dollars)
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LO3
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Shifts of the Aggregate
Supply Curve
Supply shocks
Unexpected events
Beneficial supply shocks
Increase aggregate supply
(SRAS,
LRAS)
Abundant harvests
Discoveries of natural resources
Technological breakthroughs
Sudden changes in economic system; tax
cuts
Higher output; lower price level
Chapter 11
Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved
LO3
Exhibit 6
LRAS’
SRAS130
Price
level
LRAS
Effects of a Beneficial
Supply Shock on
Aggregate Supply
SRAS125
Given the AD curve, a beneficial
supply shock that has a lasting
effect, such as a breakthrough in
technology, will permanently shift
b
125
both the short-run aggregate supply
curve and the long-run aggregate
AD”
supply curve, or potential output. A
beneficial supply shock lowers the
price level and increases output, as
Real GDP reflected by the change in
0
14.0
14.2
(trillions of dollars) equilibrium from a to b.
A temporary beneficial supply shock (an unusually favorable growing season), will shift
the AS curves only temporarily. If the next growing season returns to normal, the AS
curves will return to their original equilibrium position at a.
130
Chapter 11
a
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LO3
Shifts of the Aggregate
Supply Curve
 Adverse supply shocks
 Decrease aggregate supply
(SRAS, LRAS)
 A drought
 Overthrow of government
 Terrorist attacks
 Stagflation
 Lower output
 Higher price level
Chapter 11
Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved
Price
level
LO3
130
Exhibit 7
LRAS” LRAS
SRAS135
SRAS130
Effects of an Adverse
Supply Shock on
Aggregate Supply
c
a
125
AD”
0
13.8
Real GDP
14.0
(trillions of dollars)
Given the AD curve, an adverse
supply shock, such as an increased
threat of terrorism, shifts the shortrun and long-run aggregate supply
curves to the left, increasing the
price level and reducing real GDP,
a movement called stagflation. This
change is shown by the move in
equilibrium from a to c.
If the shock is just temporary, the shift of the aggregate supply curves will be
temporary.
Chapter 11
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