202 Chapter 13 fiscal policy

202 Chapter 13 fiscal policy - Recessionary Gap L A S A...

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4/15/11 19-1 Recessionary Gap Real output Price level Y P Y 1 L A S A D SA S0 SA S1 P 0 A Recessionar y gap P 1 B A recessionary gap is the amount by which equilibrium output is below potential output. If resources are unemployed for a long time, eventually wages and prices decrease. SAS shifts down to SAS1 and the economy is in long-run and short-run equilibrium at B. If the economy is at point A, some resources are unemployed and the recessionary gap is YP – Y1. Y 1 P 0 A SA S0
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4/15/11 29-2 Inflationary Gap An inflationary gap is the amount by which equilibrium output is above potential output. If resources are used beyond their potential, eventually wages and prices increase. SAS shifts up to SAS2 and the economy is in long-run and short-run equilibrium at D at a higher price level, P2. If the economy is at point C, resources are being used beyond their potential and the inflationary gap is YP – Y2. Price level Y 2 Y P Real outpu t LA S SA S0 A D P 0 C SA S2 Inflationar y gap P 2 Y 2 SA S0 P 0
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4/15/11 39-3 Expansionary Fiscal Policy Real output Pric e leve l P 0 SA S A D 0 Y 0 LA S A D 1 P 1 Y P If the economy is at equilibrium at point A, there is a recessionary gap Y0 – YP. AD increases to AD1 and output returns to potential output YP and prices increase slightly to P1. The appropriate fiscal policy is to increase government spending and/or decrease taxes.
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4/15/11 49-4 Contractionary Fiscal Policy If the economy is at equilibrium at point B, there is an inflationary gap Y2 – YP. AD decreases to AD2
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This note was uploaded on 04/14/2011 for the course ECON 202 taught by Professor Saleh during the Spring '08 term at Loyola Chicago.

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202 Chapter 13 fiscal policy - Recessionary Gap L A S A...

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