Keynesian Aggregate Supply/ Aggregate Demand (AS/AD) Flashcards
(15 cards)
How does the Keynesian AS curve differ from the Classical AS curve?
The Keynesian AS curve has three phases:
Horizontal (when there is spare capacity)
Upward-sloping (as resources become scarce)
Vertical (at full employment output)
Unlike the Classical model, it’s not always vertical in the long run.
Why is the Keynesian AS curve horizontal during a recession?
Because there is a lot of spare capacity, so output can increase without putting upward pressure on prices (no inflation).
What does the horizontal part of the Keynesian AS curve represent?
An economy with high unemployment and unused resources where increases in AD increase output but not the price level.
What is Keynes’s view on wage and price flexibility?
Keynes believed wages and prices are sticky downward, meaning they don’t easily fall during a recession. This can trap the economy in underemployment equilibrium.
What is a key criticism Keynes had of the Classical model?
He disagreed with the idea that the economy always returns to full employment in the long run. He argued that economies can stay stuck in recession without government intervention.
What is a recessionary (deflationary) gap in the Keynesian model?
It’s the gap between the current level of output and full employment output when the economy is underperforming.
What does Keynes argue is necessary when the economy is in a recessionary gap?
Government intervention — e.g., increased government spending — to boost aggregate demand and close the gap.
What does the vertical part of the Keynesian AS curve represent?
Full employment — all resources are used, so increases in AD only raise the price level, not output.
Why might wages not fall during a recession, according to Keynes?
Due to wage contracts, minimum wages, social norms, and the desire to maintain worker morale, making wages inflexible downward.
In Keynesian theory, is full employment guaranteed in the long run?
No. Keynes argued that economies can remain in underemployment equilibrium without reaching full employment on their own.
Why did Keynes advocate for demand-side policies during mass unemployment?
Because mass unemployment can lead to social unrest and long-term economic damage. Keynes believed the government must step in to boost Aggregate Demand (AD) and move the economy toward full employment (YFE).
What is the most effective short-term policy tool in Keynesian economics to increase AD?
Fiscal policy — particularly increased government spending and/or tax cuts, which directly shift AD to the right.
Why might monetary policy be less effective during a deep recession, according to Keynes?
Because interest rates might already be low (liquidity trap), and businesses/consumers may be unwilling to borrow or spend despite low rates.
What is the goal of using fiscal policy during a recession in the Keynesian model?
To shift AD rightward and close the recessionary gap, bringing output closer to the full employment level (YFE).
What social issues can arise from high unemployment?
Increased poverty, crime, mental health issues, loss of skills, and political instability — all of which justify active government intervention.
