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SRAS (Keynesian AS) By: Haodi Zhang Definition “The total amount of goods and services that all the firms in all the industries in a country will produce at every price level in a given period of time. “ Economics Textbook p. 274 SRAS Average Price Level SRAS Maynard Keynes Inelastic Area P2 P1 Early 20th-century economist Elastic Area Y1 Y2 Real GDP SRAS Below Full-Employment Average Price Level LRAS SRAS PE AD 1 YFE Real GDP Full employment-level of output Very low unemployment Stable price (low inflation) Resources are generally being used efficiently and near their full capacity SRAS Below Full-Employment Average Price Level LRAS SRAS PE P1 AD2 AD 1 Y1 Real GDP YFE Decrease in AD Fall in price level and output (real GDP) Equilibrium falls Workers are laid off Small decrease in price level leads to a large decrease in output SRAS Below Full-Employment Average Price Level LRAS SRAS Further decrease in AD Further fall in price level and output (real GDP) Equilibrium falls More workers are laid off The decline in output is proportionally larger than the decline in price level, due to the high elasticity under full-employment level PE P1 P2 AD AD2 3 Y2 AD 1 Y1 Real GDP YFE Why are workers laid off? Firms must lower the price due to fall in demand Wages and prices are inflexible in the short run, therefore, wage cannot be reduced “Fixed-wage period” Labor market rigidities protect workers from low wages Labor Market Rigidities Government regulations Minimum wage laws Wage agreement with labor unions Workers contract SRAS Beyond Full-Employment Average Price Level LRAS SRAS P2 P1 PE AD 3 AD2 AD 1 YFE Y1 Y2 Real GDP AD rises Small increase in output and increase in average price level (inflation) Production beyond full employment level How is production beyond full-employment possible? Full-employment does not mean zero unemployment There are still workers who are willing and able to work but are employed It is when the unemployment is low and stable Nearly all the land, capital and labor are engaged in production of goods What happens to workers? More workers are employed in response to the high demand Unemployment falls Workers becomes scarce so output increases at a decreasing rate Cause of Increase in SRAS G • Government subsidies to producers I • Improvement in productivity R • Reduction in minimum wage L • Lower resource cost S • Stronger currency B • Better infrastructure F • Fall in wage rate Right-Ward Shift of SRAS LRAS SRAS1 Increase in output and decrease in price Increase in employment Becomes more efficient in production Average Price Level SRAS2 PE P1 AD 1 YFE Real GDP Y1 Causes of Decrease in SRAS H • Higher business taxes I • Increase in resource costs W • Weaker currency I • Increase in minimum wage Left-Ward Shift of SRAS LRAS SRAS1 Average Price Level SRAS2 P1 PE AD 1 Y1 Real GDP YFE Decrease in output and increase in price Decrease in employment Lead to inflation and decline in real GDP Real World Example Japan does not lay off workers but rather decreases their wages Therefore, full capacity is never met because of the lack of efficiency When the AD decreases, the SRAS does not adjust to the full capacity There is a simple decrease in price and real GDP http://www.bbc.co.uk/news/business-21136866 Japan’s SRAS (export) LRAS1 SRAS1 LRAS1 Japan does not lay off workers but rather decreases their wages Therefore, full capacity is never met because of the lack of efficiency When the AD decreases, the SRAS does not adjust to the full capacity There is a decrease in price and increase in real GDP Average Price Level SRAS2 P1 P2 AD 1 Y1 Real GDP Y2 Conclusion Average Price Level LRAS SRAS The total amount of goods a country will produce at every price level in a given period of time. There is a elastic and inelastic zone LRAS indicated fullemployment PE AD 1 Real GDP YFE
