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March 3, 2014. Review Multipliers HW Notes: Aggregate Supply Introduction Return Work. Supply. Aggregate Supply The Supply Side of the AD/AS Model. What is Aggregate Supply?.
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March 3, 2014 • Review Multipliers HW • Notes: Aggregate Supply Introduction • Return Work
What is Aggregate Supply? • Aggregate Supply (AS) is the amount of goods and services (real GDP) that firms will produce in an economy at different price levels. • Relationship between price level and total quantity of output that firms are willing and able to produce (AS = Real GDP) • The supply for everything by all firms. • Aggregate Supply differentiates between short run (SRAS) and long-run (LRAS) and has two different curves. • Short-run Aggregate Supply (SRAS) • Graph looks like a “regular” supply curve- positively sloped…because…)
Short-Run Aggregate Supply (SRAS) • In the Short Run, wages (fixed or sticky) and resource (input) prices do NOT increase as price levels increase. • Example: • If a firm currently makes 100 units of a product that are sold for $1 each. The only cost is $80 of labor. • How much is profit? • Profit = $100 - $80 = $20 • What happens in the SHORT-RUN if price level doubles? • Now 100 units sell for $2, TR=$200. • How much is profit? • Profit = $120 • With higher profits, the firm has the incentive to increase production. • SRAS focuses on per Unit Profit
Aggregate Supply Curve AS Price Level Note the Up-sloping Curve AS is the production of all the firms in the economy Real domestic output (GDPR) 6
Shifts in Aggregate Supply An increase or decrease in national production can shift the curve right or left AS2 AS Price Level AS1 Real domestic output (GDPR)
Shifters of Aggregate Supply • 1. Change in Resource Prices • Prices of Domestic and Imported Resources • (Increase in price of Canadian lumber…) • (Decrease in price of Chinese steel…) • Supply Shocks • (Negative Supply shock…) • (Positive Supply shock…) 8
Shifters of Aggregate Supply 2. Change in Actions of the Government (NOT Government Spending) Taxes on Producers (Lower corporate taxes…) Subsidies for Domestic Producers (Lower subsidies for domestic farmers…) • 3. Change in Productivity • Technology • (Computer virus that destroys half the computers…)
March 6, 2014 • Review AD/AS Model Graphing HW • Notes: Types of Inflation & LRAS Intro
Types of Inflation • Changes in AD and AS lead to changes in the price level (inflation/deflation) • A shift in either AD or AS determines which type of inflation is experienced. • DEMAND-PULL Inflation: Caused by a shift in AD curve. • Occurs when demand for goods/services increases (causing Real GDP to expand and price level to increase.) • “Too much money chasing too few goods.”
Types of Inflation • COST-PUSH Inflation: Caused by a shift in the AS curve. • Caused by increase in the cost of an input with economy-wide importance. • i.e.: Increase in wages nationally or the cost of oil.
Stagflation: High Unemployment & high inflation
Example Scenarios…Which type of inflation is it? • President Obama calls for an increase in the U.S. military presence around the globe to combat a threat to American trade routes. • The Arab Spring of 2010 disrupts oil production and supplies worldwide, causing OPEC to raise crude oil prices. • The federal government raises the minimum wage to $12 an hour. • The U.S. government expands Social Security, Medicare, and Medicaid benefits, causing the U.S. to run a budget deficit the next year, which leads to increased government borrowing.
March 10, 2014 • Let’s Catch Up…Website Visit • AS/AD Model Graphs handout? • AP Exam Payment Handouts • Notes: Continue LRAS • Practice LRAS (Activity 3-8) • Unit 2 Study Guide Exam Thursday/Friday Vocab Due Thursday Current Event Due Friday
LRAS • LRAS shows the relationship between price level and Real GDP that would exist if ALL wages and prices were fully flexible. • Any time price level changes (inflation or deflation) wages and other input costs fully adjust. • i.e. if prices doubled and wages and other input costs doubled, there would be no overall effect. • In the LR, wages and other input costs adjust so the economy always returns to full level of employment (Natural rate = no cyclical unemployment) • LRAS curve is vertical at the full employment output level.
Long-Run Aggregate Supply • In the Long Run, wages and resource prices WILL increase as price levels increase. • Example: • The firm has TR of $100 an uses $80 of labor. • Profit = $20. • What happens in the LONG-RUN if price level doubles? • Now TR=$200 • In the LONG RUN workers demand higher wages to match prices. So labor costs double to $160 • Profit = $40, but REAL profit is unchanged. • If REAL profit doesn’t change • the firm has no incentive to increase output.
LRAS In Long Run, price level increases LRAS LRAS is independent of prices… Other factors than demand and prices influence LRAS are.. LR Production is improved by changes in technology or labor productivity Price level Long-run Aggregate Supply Full-Employment QY GDPR In the long run the economy will be producing at the vertical curve which represents full employment. In the long-run, there is exactly one quantity that will be supplied.
Concluding LRASActual vs. Full Employment Output • Remember, Real GDP is inversely related to level of Unemployment. • Short Run Equilibrium: Only price level where goods/services purchased by domestic & foreign buyers are equal to quantity supplied within the economy. • This equilibrium output can be less than, equal to, or greater than the full employment output. • Recessionary Gap(when in a recession) Real GDP will be less than the potential level and Unemployment Rate will exceed Natural Rate. • Inflationary Gap: (when experiencing inflation) Equilibrium Real GDP will exceed the potential level and Unemployment Rate will fall below the Natural Rate.
