Download Chapter 16 The long Run AS

I.
Aggregate Supply
a. Long-run vs short-run
b. Short-run AS (SRAS)
- movement along SRAS vs a change in SRAS
- determinants of SRAS
c. Long-run AS (LRAS)
Short Run AS vs Long Run AS
Recall: In microeconomics, the short-run is defined as a period of
time in which something remains fixed
In Macro:
The short-run is a period in which nominal wages (and other
input prices) are fixed as the price level changes.
Why are wages fixed in the short-run?
1. Fixed wage contracts for managers and professionals
Ex: Many jobs have annual reviews of workers
2. Workers are not immediately aware that inflation or
deflation has changes their real wages
Ex: When you go to store, the prices of some items
have increased, but other items might be on sale.
It may take a year for you to realize: My grocery bill
has increased $20 and my rent also went up.
The Long-run – a period in which input prices (wages) are fully
responsive to changes in the price level.
Ex: Contracts expire
Workers realize that they have experienced a  in real
wages and ask for raise.
Aggregate Supply
- shows the effect of changes in the price level on the quantity
of goods and svcs that firms are willing able to supply (real
GDP supplied).
- NOTE: there are 2 AS curves!!!!!
1. short-run AS (SRAS)
2. long-run AS (LRAS)
A) short-run AS (SRAS)
 Shows the short-run relationship between P and real
GDP supplied
 Is upward sloping 
P   real GDP supplied
Why is SRAS upward sloping?
1. In the short-run, nominal wages (and the price of
other inputs) adjust slowly.
Recall: In the short-run workers have not yet
asked for raises (they haven’t realized that prices
have increased or not time for annual contract
review).
Also, firm’s vendors who supply inputs to
production have not consistently increased prices.
 wages and prices are sticky in the short-run
(they don’t respond quickly)
2. menu costs-
Therefore, in the short-run, if the overall price of final goods and
svcs  ( P)
  profit and increased willingness to supply goods to
the market.
Note:  or  in P will only produce a movement along SRAS
curve (A B).
A shift in SRAS vs a movement along it
Note: A change in the price level (P) will cause a change in the
quantity of real GDP supplied
 Inflation and deflation cause a movement along the SRAS
curve
A shift in SRAS
 Caused by a change in one of the determinants of SRAS
An increase in SRAS:
A decrease in SRAS:
Determinants of SRAS
Long-run AS (LRAS)
* Shows the long-run relationship between P and real
GDP supplied
* Recall, the long-run is a period in which input prices
(wages) are fully responsive to changes in the price level.
* Also recall:
Full employment  cyclical unemployment = 0
 There is frictional & structural unemployment
 Both are natural phenomenon
Full employment is called the natural rate of unemployment
Potential GDP (QP)– the quantity of real GDP at full
employment.
- A nation’s output when all of their economic resources (L, L,
C, & EA) are fully employed.
** Potential GDP is also called full-employment GDP
In the long-run,
1. firms will operate at full capacity and everyone who wants
a job will find one (only frictional and structural unemp).
2. changes in the price level (P) do not effect the level of real
GDP.
 the LRAS is vertical at full employment GDP (QP)
Understanding the Vertical LRAS
Short run effects of  P:
Suppose QP  potential GDP. If there is an P 
movement along SRAS
Since this is the short-run, nominal wages don’t  (& other
factor prices don’t ).
Note: Inflation temporarily makes real GDP  above potential
GDP.
Long run effects:
However, when workers discover that P  & ask for raises 
 SRAS (as prices of other factors also )
Note: real GDP  to QP
The factors that cause LRAS to  are the factors that we learned
that cause real GDP to :
1.  labor
2.  capital
3. technological change