Unit 5
Extending the Analysis of AS
In macroeconomics, this is the period in which wages (and other input prices) remain fixed as price level increases or decreases.
Long Run Aggregate Supply
- Period of time in which wages have become fully responsive to changes in price level.
Effects over Short-Run
- In the short run, price level changes allow for companies to exceed normal outputs and hire more workers because profits are increasing while wages remain constant.
- In the long run, wages will adjust to the price level and previous output levels will adjust accordingly.
Equilibrium in the Extended Model
- The long run AS Curve is represented with a vertical line at full employment level of real GDP.
Demand Pull Inflation
- Demand pull- prices increases based on an increase in aggregate demand.
- In the short run, demand pull will drive up prices, and increase production.
- In the long run, increases in aggregate demand will eventually return to previous levels.
Cost push & the Extended Model
- Cost push inflation arises from factors that will increase per unit costs such as increases in the price of a key resource.
Dilemma for the Government
- In an effort to fight cost-push, the government can react.
- Action such as spending by the government could begin an inflationary spiral.
- No action however could lead to a recession by keeping production and employment levels declining.
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