Desempleo

Ch. 16 Macroeconomic Equilibrium
Ch. 17 Low unemployment

Please answer the next 6 questions with a 1 to 3 paragraph response and be sure to have the necessary diagrams within the logic of the questions.

1. How do neo-classical economists interpret the role of LRAS and SRAS within the growth of the economy? Be sure to include diagrams in your explanation.

When talking about the SRAS(short-run aggregate supply) there are no objections of how the system works. Basically because both points of view, neo-classical and Keynesian, agree that when there is an increase of aggregate demand, this change will lead to an increase in the price and at the same time an increase in the output. We can observe that because AD1 has changed to AD2 this leaded to the increase of real output fromY1 to Y2 as well as increasing the price from P1 to P2. This same concept can be represented graphically through this graph:

Average price level

SRAS

P2

P1
AD2

AD1

Real output (Y)
Y1 Y2

When talking about the (LRAS) Long-run aggregate supply it is not as easy as the SRAS basically because economists do not agree on how the LRAS works. This is why there aretwo different points of view: the neo-classical and Keynesian. The neo-classical point of view says that the economy will always move towards its long-run equilibrium at the full employment level of output. The impact in any changes of aggregate demand will be on the price level only. This can be seen in the following graph where an increase from AD1 to AD2 results in an increase in the pricelevel from P1 to P2 without any increase in the level of real output.
Average price level

LRAS


P2


P1

AD2
AD1
Real output (Y)

Yf
After explaining these two concepts of how an economy is affected due to facts such as SRAS and LRAS, now I’m ready to explain how a neo-classic economist interprets a SRAS and LRAS in a growingeconomy. So it is possible for output to increase in a short-run aggregate supply curve by paying existing workers overtime wages as a short-term solution. But as the economy is originally at the full employment level of output, there are no unemployed resources. In their effort to increase their output, the firms in the economy are competing for an increasingly scarce labor and capital and, as thediagram shows, the increase in aggregate demand results in an increase in the price level from P1 to P2 shown in the following graph.

Average price level

LRAS
SRAS1

P3 SRAS2
P2

P1

AD2
AD1
Real output (Y)

Yf Y1

The increase in the average price level means that, all prices in the economy have risen as the firmsbid up the prices of the factors of production in order to increase their output. The rise in the price level means an increase in costs to firms as the prices of the factors of production have risen and the short-run aggregate supply changes from SRAS1 to SRAS2. The final result is that the output returns to Yf (full employment level) but at a higher price level (P3) this is due to the high costsof production that result in no real gain.

2. What causes the inflationary gap within the economy from a Keynesian perspective?

While neo-classical economists believe that the equilibrium level of output occurs where aggregate demand meets the long-run aggregate supply. However, according to economists that support the Keynesian theory, they believe that the equilibrium level of outputoccurs below the full employment level of national income (Yf). This will only be the case if the economy is operating at a level where there is spare capacity.
The inflationary within the economy from a Keynesian perspective is produced by an increase in aggregate demand from AD1 to AD2. This change results in no change in output as the economy cannot produce output beyond the full employment of...