Aggregate Supply

Aggregate Supply - new equilibrium price and the existing...

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Aggregate Supply The aggregate supply curve shows the quantity of output firms are willing to supply at various price levels. short run aggregate supply (SRAS) curve: New Classical: Output rises above Y f when the price level is higher than expected. The idea is that people confuse a rise in the general price level (to which they should not respond) with a rise in the relative price of what they produce (to which they should respond by increasing output). Y = Y * + b(P - P e ) New Keynesian: Menu costs are the costs of changing prices. These costs include the costs of physically changing prices as well as the time taken to inform customers, the customer annoyance caused by price increases, and the effort required to even think about a price change. Firms with the ability to set prices will not change the price unless the
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Unformatted text preview: new equilibrium price and the existing price differ by enough to make it worthwhile to incur the menu costs of changing the price. With prices fixed, firms adjust production to meet the demand for their products. With any increase in aggregate demand, some firms will find it profitable to raise prices while others will find it worthwhile to increase output. So, the SRAS curve is upward-sloping: an increase in the price level leads to an increase in total output. In the long run, all costs are variable so there is no variation in the level of output with the price level. Wages and other resource costs fully adjust to price level changes. Higher costs match higher product prices so profits are unchanged. So, the LRAS is vertical at the level of potential real GDP....
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