AD and AS and Equilibrium Flashcards
What is AD?
Total spending on goods and services produced in the domestic economy over a given period of time.
AD Curve?
Slopes downwards as there is an inverse relationship between AD and the price level.
Why does AD curve slope down?Wealth
Wealth effect-lower price level results in wealth having a greater purchasing power(stock of accumulated assets) so spending increases as consumers feel wealthier.
Why does AD curve slope down?Trade
A higher domestic price level all other things being equal reduces the international price competitiveness of domestic producers.Less consumption on exports leading to a fall in AD.More spending on imports.
Why does AD curve slope down?IR
When the price level is high more money is needed for economic transactions.Therefore economic agents need to borrow more.If the interest rates are relatively high cost of borrowing rises so consumers are less likely to borrow and instead save their money.C and I fall
Causes of increases in AD?Reductions is just the opposite
Increase in Consumer confidence,Business optimism,Fall in taxation,Increase in money supply,reduction in interest rates ,fall in exchange rate,increase in wealth,Increased gov expenditure
What is AS?
The total output of domestically produced goods and services that firms are willing and able to supply at a given price level in an economy over a given period of time.
Short-run Vs Long-run
Short run is the period of time where the price of at least one factor input is fixed.Long run is the period of time where the price of factor inputs are variable.
Relationship between SRAS and Price-Level?
Positive relationship between SRAS and the price level.This is because firm can cover any extra wage costs and increase output at a higher price level and they are incentivised to extend supply as their profit margin is likely to rise.
Factors affecting SRAS
Changes in labour costs-wage costs adjusted for productivity.An increase maybe due to higher wages or fall in productivity reducing SRAS.Changes to raw material prices.Changes in other costs of production.Exchange rates an increase will increase SRAS
More factors affecting SRAS
Taxation and subsidies,Price of imports and short run shocks to production.
Increases in SRAS
Reduction in unit labour costs,lower costs of finance,lower administration costs.
What is Short run macroeconomic equilibrium?
When AD=AS.The real output produced by firms in the economy is exactly equal to the total demand for goods and services produced in the economy.At output y1 there is no inflationary or deflationary pressure on the price level.
What is the potential output of an economy determined by?
Quantity and quality of factors of production.Mobility of factors occupational and geographical mobility of factors.State of technological progress.Neoclassical LRAS is perfectly inelastic.
What do Neoclassical economists believe in the long run?
They believe that in the long run the LRAS curve is independent of the price level.The position of the vertical LRAS represents the full capacity level of output of an economy.In the long run the economy will always move to its full employment level of output which is where the AD curve meets the LRAS (Long run equilibrium level of output)Curve.
Describe shape of Keynesian LRAS Curve
Section 1-Spare capacity.If output is low enough the economy will have loads of spare capacity.Resources are not being fully utilised so an increase in output in response to AD leading to more factors being employed will not push up the factor prices as spare factors can be utilised in production leading to an increase in Real GDP with no increase in price level.
Stage 2 of Keynesian LRAS Curve
Increasing scarcity.Factor prices start to rise as output increases so the price level start to rise as firms compete for factor inputs.The national output firms are williang able to supply goes up but due to increasing pressure on factor prices to rise the average price level rises.
Stage 3 of Keynes
Full capacity.If output is high enough the economy will reach its full employment level of output.Factors of production are fully utilised and any increase in output will lead to factor prices being pushed up as there is no spare capcity.Leads to an increase in price level and no increase in real national output in long run.
What is long run economic growth?
Increase in productive capacity of an economy in the long run.Increase in potential output of an economy.
Causes of long run economic growth?
Increase in quality or quality of factors of production.Improvement in tech.Increase in entrepreneurs. Increased mobility of workforce.
What does a highly effective institutional structure contain?
Stable and democratic political system
Very well functioning legal system
Effective and efficient financial system.
How is a highly effective institutional structure useful.
Entreprenurs are much more likely to undertake economic activity as they are more likely to be able to earn profits for risk taking.Sustained private investment is likely to be more influential in providing long run growth due to a more stable economic environment.Increases in productive capacity are likely to occur over time as private oweners of capital are more likely to undertake investment and re invest with the profits earned.
What is the accelerator effect?
An increase in rate of growth can lead to a much larger proportional increase in investment further accelerating increases in national income.The rate of investment depends on the rate of growth so it is very volatile.
When will firms only replace worn out capital?
If the same products and the same amount of products are produced each year only replacement investment is needed.
