Chapter 15

Chapter 15 - Matakuliah : J0594-Teori Ekonomi Tahun : 2009...

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Extending the Analysis of Aggregate Supply CHAPTER FIFTEEN EXTENDING THE ANALYSIS OF AGGREGATE SUPPLY LECTURE NOTES I. Introduction A. Learning objectives – In this chapter students will learn: 1. About the relationship between short-run aggregate supply and long-run aggregate supply. 2. How to apply the “extended” (short-run/long-run) AD-AS model to inflation, recessions, and unemployment. 3. About the short-run tradeoff between inflation and unemployment (the Phillips Curve). 4. Why there is no long-run tradeoff between inflation and unemployment. 5. The relationship between tax rates, tax revenues, and aggregate supply. B. Recent focus on the long-run adjustments and economic outcomes has renewed debates about stabilization policy and causes of instability. C. This chapter makes the distinction between short run and long run aggregate supply. D. The extended model is then used to glean new insights on demand-pull and cost-push inflation. E. The relationship between inflation and unemployment is examined; we look at how expectations can affect the economy, and assess the effect of taxes on aggregate supply. II. Short-Run and Long-Run Aggregate Supply A. Definition: Short-run and long-run. 1. For macroeconomics the short-run is a period in which wages (and other input prices) do not respond to price level changes. a. Workers may not be fully aware of the change in their real wages due to inflation (or deflation) and thus have not adjusted their labor supply decisions and wage demands accordingly. b. Employees hired under fixed wage contracts must wait to renegotiate regardless of changes in the price level. 2. Long run aggregate supply (See Figure 15.1b). Formed by long-run equilibrium points a 1, b 1, c 1. a. In the long run, nominal wages are fully responsive to price level changes. b. The long run aggregate supply curve is a vertical line at the full employment level of real GDP. (See Figure 15.1b) (b1, a1, c1). B. Short-run aggregate supply curve AS 1 , (see Figure 15.1a) 1. The curve is constructed with three assumptions. a. The initial price level is given at P 1 . b. Nominal wages have been established on the expectation that this specific price level will persist. c. The price level is flexible both upward and downward. 2. If the price level rises, higher product prices with constant wages will bring higher profits and increased output. (See Figure 15.1a) (The economy moves from a 1 to a 2 on curve AS 1 .) 233
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Extending the Analysis of Aggregate Supply 3. If the price level falls, lower product price with constant wages will bring lower profits and decreased output. (See Figure 15.1a) (The economy moves from a 1 to a 3 on curve AS 1 .) C. The extended AD-AS makes the distinction between the short run and long run aggregate supply curves. (See Figure 15.2) Equilibrium occurs at point a where aggregate demand intersects both the vertical long run supply curve and the short run supply at full employment output. III.
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Chapter 15 - Matakuliah : J0594-Teori Ekonomi Tahun : 2009...

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