macsg13 - 13 [28] Aggregate Supply and the Equilibrium...

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323 13 [28] Aggregate Supply and the Equilibrium Price Level C hapter objectives: 1. Distinguish between the short run and the long run. Explain why the short-run and long-run aggregate supply curves have the slopes they have. Identify the factors that shift the short-run aggregate supply curve. 2. Define potential GDP and relate it to the long-run aggregate supply curve. 3. Define the equilibrium price level. 4. Explain how the economy achieves its long-run equilibrium. 5. Determine the short-run effects of an expansionary or contractionary fiscal or monetary policy on the equilibrium price level and the inflation rate, and link this to the degree of excess capacity in the economy. Determine the long-run effects of expansionary or contractionary policy. 6. Define inflation and identify the major sources of inflation. Explain why sustained inflation is believed to be a purely monetary phenomenon. 7. Explain why the Fed targets the interest rate, rather than the money supply, as a policy variable. 8. State the goals of the Fed since 1970 (as discussed in this chapter) and explain the rationale behind the policy of “leaning against the wind.” BRAIN TEASER: The textbook assumes, for simplicity, that the expenditure multiplier is constant, but is it? A given autonomous increase in, say, consumption will prompt a given rightward shift in the aggregate demand curve and a new equilibrium output level will be reached. Consider two cases: Case A, where there is a relatively large amount of excess capacity in the economy and Case B, where the economy is close to full employment. Does the increase in consumption result in the same expansion in output level? In which case is the multiplier larger? What causes the difference?
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324 Study Guide to Principles of Macroeconomics OBJECTIVE 1: Distinguish between the short run and the long run. Explain why the short-run and long-run aggregate supply curves have the slopes they have. Identify the factors that shift the short-run aggregate supply curve. The aggregate supply ( AS ) curve shows how the aggregate output supplied by the economy’s productive sector responds to changes in the overall price level. It is not merely the sum of the supply curves of all the firms in the economy. In Chapter 3, we assumed that costs were held constant when we constructed a supply curve for a market. However, in the overall economy, the price of one firm’s output is often the price of another firm’s input. Also, except in a perfectly competitive environment, firms simultaneously determine the price they will charge and the level of output they will produce. The aggregate supply curve may best be thought of as a curve that traces out the price and production decisions of all the firms in the economy under a given set of circumstances—expectations, tax policies, energy prices, and so on. (page 237 [549]) In the long run, all cost and price-level changes have time to work through the economic system. Though wage changes tend to “follow” price changes in the short run, in the long run wages have had
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This note was uploaded on 02/13/2010 for the course ECON 1102 taught by Professor Wissink during the Spring '09 term at Cornell University (Engineering School).

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macsg13 - 13 [28] Aggregate Supply and the Equilibrium...

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