Principles of Macroeconomics &acirc;€“ The Business Cycle (Lecture 9)

# Principles of Macroeconomics â€“ The Business Cycle (Lecture 9)

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Principles of Macroeconomics – The Business Cycle (Lecture 9) Demand inflation An inflation that starts because aggregate demand increases is called demand-pull inflation. Demand will grow continually with supply. If demand keeps growing and wages also increase, this will continually increase the price level. o This will cause a price-wage spiral. Mainly swings in AD due to confidence of private sectors, thus influencing investment causing swings in the business cycle. In the labour market LS = LD is where full employment occurs. o If LS increases (shifts to the right), we obtain a new potential GDP. In this case, the LAS has moved to the right. o If an increase in AD (shifts to the right), a new equilibrium will occur, where the real GDP has increased. The price level will also increase at the same time. There is NO change in nominal wages in the short run (w). This means that there is a fall in real wages. (Sticky wage theory). We come to disequilibrium. In the long run, there will be an increase in wages, which a fall in SAS. Once again, a rise of prices will occur again. There is always an increase in the price level due to inflation, where the RBA maintains inflation between 2 – 3 %.

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The shift in the SAS curve is in the long run due to the wages “catching up” (increase in wages to compensate for the rise in price level). This cycle keeps occurring for demand inflation. Cost-push inflation Remember: SAS = F(P,w (cost of labour),r (cost of raw material)) for cost-push inflation where these factors will cause the SAS to change. o A change in any of these factors SHIFTS the SAS. o If an increase in cost, therefore fall in SAS, which leads to an increase in price level and fall in real GDP.
As AD increases, the money supply will increase to boost the real GDP, thus also affecting the price level, thus an increase in price level overall. Wages have also being unaffected. o

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## This note was uploaded on 09/27/2011 for the course FINANCE 1001 taught by Professor Profassorted during the Three '11 term at University of Adelaide.

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Principles of Macroeconomics â€“ The Business Cycle (Lecture 9)

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