Extending -Unit 5

Unit 5 

Short Run Aggregate Supply

• Period in which wages (and other input prices) remain fixed as price level increases or decreases.

Effects over Short-Run

• In 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 price level and previous output levels will adjust accordingly.

Equilibrium in Extended Model 

• Long AS curve is vertical at FULL EMPLOYMENT

Demand Pull Inflation in AS Model

• Demand Pull: prices increase based on increase in aggregate demand. AD --->
• In the short run, demand pull will drive up prices, and increase production.
• In the long run, increases in AD return to previous levels.

Cost Push

• Cost push arises from factors that increases per unit costs such as increase in price of a key resource
• Short run shifts left 

Dilemma for the Government

• In an effort to fight cost push, the government can react in two different ways
• Actions such as spending by the government could begin an inflationary spiral
• No action however could lead to recession by keeping production and employment levels declining