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Full Equilibrium - resources But due to equilibrating...

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Full Equilibrium: The classical flexible interest, price, wage rate solution automatically leads the economy back to the full employment level. Therefore the effect of a fall in consumer demand on the levels of output and employment is only temporary. In figure 20, AD 1 and SAS 1 are original aggregate demand and aggregate supply curves respectively. The two curves have intersected at point E. In this equilibrium position original price level is P and real output or national income level is Y. This is full employment equilibrium since the long run supply curve LAS passes through this point. When the consumers reduce their demand for consumption goods the aggregate demand curve then shifts as AD 2 . The new AD 2 curve and original SAS 1 curve have intersected at point E 1 which is a short run partial equilibrium condition. At E 1 the price level falls to P 1 and real output level reduces to Y 1 . Thus a fall in the real output causes some unemployment of labor and other
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Unformatted text preview: resources. But due to equilibrating forces at work, such as a fall in the rate of interest and a cut in the wage rates, a fresh demand for investment goods is generated. A fall in the wage rates reduces cost of production which induces producers to employ more workers. As a result of these adjustments the economy moves from E 1 to a new equilibrium point E 2 . At this point AD 2 intersects the new supply curve SAS 2 which has shifted downwards. Such a shift in the supply curve shows a fall in the cost of production due to a cut in the wage rates. At point E 2 the original equilibrium level of output Y can be produced which is the full employment level of output. The price level has now fallen to P 2 . Thus with a fall in the rate of interest, price level and wage rate, the restoration of full employment equilibrium level becomes possible....
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Full Equilibrium - resources But due to equilibrating...

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