ch13 - Aggregate supply In this chapter you will learn In...

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1 slide 0 Aggregate supply In previous chapters, we have carefully studied aggregate demand. But we have treated aggregate supply somewhat casually. A horizontal supply curve is a convenient assumption, but inaccurate. CHAPTER 13 Aggregate Supply slide 1 CHAPTER 13 Aggregate Supply In this chapter, you will learn… two models of aggregate supply in which output depends positively on the price level in the short run the short-run tradeoff between inflation and unemployment known as the Phillips curve slide 2 CHAPTER 13 Aggregate Supply Two models of aggregate supply 1. The imperfect-information model 2. The sticky-price model natural rate of output a positive parameter the expected price level the actual price level agg. output slide 3 The imperfect information model In this model, we will see that when the price level exceeds the expected price level, supply of goods and services will increase. What makes this happen is imperfect information. CHAPTER 13 Aggregate Supply slide 4 CHAPTER 13 Aggregate Supply The imperfect-information model Assumptions: All wages and prices are perfectly flexible, all markets clear. Each supplier produces one good, consumes many goods. Let’s distinguish between “price” and “price level”: Price: market value of a good. The price level: represents the level of all prices. A rise in the price level is inflation. slide 5 Relative price Supply of each good depends on its relative price: the nominal price of the good relative to the price level. If all prices go up at the same time, then the relative price is unchanged. A supplier’s nominal income is higher, but cost of living is also higher. The supplier has no incentive to produce more. The supplier has motive to produce more only if the relative price increases. CHAPTER 13 Aggregate Supply
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2 slide 6 Relative price Problem: the relative price is difficult to obtain. A supplier knows the price in its own market, but does not have full information about the price level . Example: an asparagus farmer knows the market price of asparagus very well, but may not have accurate information about the relative price of asparagus. It is because he is not very good at the prices of other goods (thus imperfect information). He needs to estimate it. CHAPTER 13 Aggregate Supply slide 7 The imperfect-information model The supplier’s estimate of the relative price comes from two sources: Observed price of own goods (asparagus) The price level that he expects, P e Example: suppose the farmer expects the price level to rise by 3% a year. Now the price of asparagus rises by 3%. The farmer understands that this is all due to general inflation, his own relative price does not change. So he doesn’t change his production plan.
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This note was uploaded on 05/08/2011 for the course ECON 362 taught by Professor Birz during the Fall '08 term at Binghamton.

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ch13 - Aggregate supply In this chapter you will learn In...

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