Returning to Full Employment Efficiency (Self-Correcting Economies)
The Classical Theories of Balances
•
Since the 1980s there has been a strong resurgence of conservative politics and
conservative/classical economics concepts.
•
This is being reflected in AP exams with the concept of “natural” corrections occurring in markets.
•
This is drawn using the Aggregate Model. Assume that markets start as efficient, full employment
real GDP output. (Place AD on SRAS at the correct equilibrium point.)
•
Follow the logic of the change being described and then get the market back to equilibrium. Note
the possible changes in PL that occur due to the change being described.
Directions
For each scenario, draw an aggregate model, show the change described, follow the logic and return the
market to FE equilibrium:
1. Something increases AD (C or Ig or G or Xn) and moves the AD line outward from FE equilibrium:
A. What has happened to PL?
B. What is the effect on real wages for workers? (assume sticky wages)
C. Due to this effect, who will workers respond with wage demands?
D. As producers face these new wage demands, what happens to input costs of
production?
E. As these input costs are absorbed, what should happen to the SRAS line?
F. As the new equilibrium is established back at FE, what happened to PL?
Returning to Full Employment Efficiency (Self-Correcting Economies)
The Classical Theories of Balances
•
Since the 1980s there has been a strong resurgence of conservative politics and
conservative/classical economics concepts.
•
This is being reflected in AP exams with the concept of “natural” corrections occurring in markets.
•
This is drawn using the Aggregate Model. Assume that markets start as efficient, full employment
real GDP output. (Place AD on SRAS at the correct equilibrium point.)
•
Follow the logic of the change being described and then get the market back to equilibrium. Note
the possible changes in PL that occur due to the change being described.
Directions
For each scenario, draw an aggregate model, show the change described, follow the logic and return the
market to FE equilibrium:
2. Something decreases AD and moves the AD line inward from FE equilibrium.
A. What has happened to PL?
B. What will also happen to business profits due to the shift in AD?
C. How will businesses respond to hiring and keeping workers due to the change in profits?
D. Wages will therefore change how?
E. As the wages change, what happens to inputs costs for businesses?
F. As the input costs change, how can SRAS change and return to FE?
G. Since FE has been re-established, what happened to the PL?
Returning to Full Employment Efficiency (Self-Correcting Economies)
The Classical Theories of Balances
•
Since the 1980s there has been a strong resurgence of conservative politics and
conservative/classical economics concepts.
•
This is being reflected in AP exams with the concept of “natural” corrections occurring in markets.
•
This is drawn using the Aggregate Model. Assume that markets start as efficient, full employment
real GDP output. (Place AD on SRAS at the correct equilibrium point.)
•
Follow the logic of the change being described and then get the market back to equilibrium. Note
the possible changes in PL that occur due to the change being described.
Directions
For each scenario, draw an aggregate model, show the change described, follow the logic and return the
market to FE equilibrium:
3. Something increases SRAS and moves it outward (input costs improve, productivity, labor costs,
business taxes…) and moves the SRAS line from FE equilibrium.
A. What has happened to the PL?
B. What happens to business input costs with this shift?
C. What also happens to the GDP/Output?
D. If both PL and GDP change show the resulting change that will occur in LRAS, reestablishing FE equilibrium.
E. What happened to PL after all of this?
Returning to Full Employment Efficiency (Self-Correcting Economies)
The Classical Theories of Balances
•
Since the 1980s there has been a strong resurgence of conservative politics and
conservative/classical economics concepts.
•
This is being reflected in AP exams with the concept of “natural” corrections occurring in markets.
•
This is drawn using the Aggregate Model. Assume that markets start as efficient, full employment
real GDP output. (Place AD on SRAS at the correct equilibrium point.)
•
Follow the logic of the change being described and then get the market back to equilibrium. Note
the possible changes in PL that occur due to the change being described.
Directions
For each scenario, draw an aggregate model, show the change described, follow the logic and return the
market to FE equilibrium:
4. Something decreases SRAS and moves it inward (negative supply shock), moving the SRAS from
FE equilibrium.
A. PL will change how? Real GDP/Output will change how?
B. What will happen to unemployment? The overall PL and unemployment change is
called by what unique term?
C. Real wages will do what as SRAS shifts?
D. Because of the change in real wages, business input costs will do what?
E. Businesses will now have to do what to the unemployment rate?
F. Eventually, what will have to happen to aggregate nominal wages to change the cycle of
inflation? What will this do to real wages in the short run?
G. The nominal wage rate change will now change businesses’ input costs how?
H. As a result of this final change in input costs, businesses can do what to SRAS to get the
economy back to FE?
Returning to Full Employment Efficiency (Self-Correcting Economies) KEY
The Classical Theories of Balances
•
Since the 1980s there has been a strong resurgence of conservative politics and
conservative/classical economics concepts.
•
This is being reflected in AP exams with the concept of “natural” corrections occurring in markets.
•
This is drawn using the Aggregate Model. Assume that markets start as efficient, full employment
real GDP output. (Place AD on SRAS at the correct equilibrium point.)
•
Follow the logic of the change being described and then get the market back to equilibrium. Note
the possible changes in PL that occur due to the change being described.
Directions
For each scenario, draw an aggregate model, show the change described, follow the logic and return the
market to FE equilibrium:
1. Something increases AD (C or Ig or G or Xn) and moves the AD line outward from FE equilibrium:
A. What has happened to PL? INCREASES
B. What is the effect on real wages for workers? (assume sticky wages) DECREASE
C. Due to this effect, who will workers respond with wage demands? DEMAND HIGHER
D. As producers face these new wage demands, what happens to input costs of
production? INCREASE
E. As these input costs are absorbed, what should happen to the SRAS line? INWARD/LEFT
F. As the new equilibrium is established back at FE, what happened to PL? INCREASED
Returning to Full Employment Efficiency (Self-Correcting Economies)
The Classical Theories of Balances
•
Since the 1980s there has been a strong resurgence of conservative politics and
conservative/classical economics concepts.
•
This is being reflected in AP exams with the concept of “natural” corrections occurring in markets.
•
This is drawn using the Aggregate Model. Assume that markets start as efficient, full employment
real GDP output. (Place AD on SRAS at the correct equilibrium point.)
•
Follow the logic of the change being described and then get the market back to equilibrium. Note
the possible changes in PL that occur due to the change being described.
Directions
For each scenario, draw an aggregate model, show the change described, follow the logic and return the
market to FE equilibrium:
2. Something decreases AD and moves the AD line inward from FE equilibrium.
A. What has happened to PL? DECREASED
B. What will also happen to business profits due to the shift in AD? DECREASE
C. How will businesses respond to hiring and keeping workers due to the change in profits?
LAYOFFS AND PAYROLL REDUCTIONS
D. Wages will therefore change how? DECREASE
E. As the wages change, what happens to inputs costs for businesses? DECREASE
F. As the input costs change, how can SRAS change and return to FE? OUTWARD/RIGHT
G. Since FE has been re-established, what happened to the PL? DECREASED
Returning to Full Employment Efficiency (Self-Correcting Economies)
The Classical Theories of Balances
•
Since the 1980s there has been a strong resurgence of conservative politics and
conservative/classical economics concepts.
•
This is being reflected in AP exams with the concept of “natural” corrections occurring in markets.
•
This is drawn using the Aggregate Model. Assume that markets start as efficient, full employment
real GDP output. (Place AD on SRAS at the correct equilibrium point.)
•
Follow the logic of the change being described and then get the market back to equilibrium. Note
the possible changes in PL that occur due to the change being described.
Directions
For each scenario, draw an aggregate model, show the change described, follow the logic and return the
market to FE equilibrium:
3. Something increases SRAS and moves it outward (input costs improve, productivity, labor costs,
business taxes…) and moves the SRAS line from FE equilibrium.
A. What has happened to the PL? DECREASES
B. What happens to business input costs with this shift? DECREASE
C. What also happens to the GDP/Output? INCREASE
D. If both PL and GDP change show the resulting change that will occur in LRAS, reestablishing FE equilibrium. MOVES OUTWARD/RIGHT
E. What happened to PL after all of this? PROPAABLY STAYS ABOUT THE SAME WITH
GREATER REAL GDP
Returning to Full Employment Efficiency (Self-Correcting Economies)
The Classical Theories of Balances
•
Since the 1980s there has been a strong resurgence of conservative politics and
conservative/classical economics concepts.
•
This is being reflected in AP exams with the concept of “natural” corrections occurring in markets.
•
This is drawn using the Aggregate Model. Assume that markets start as efficient, full employment
real GDP output. (Place AD on SRAS at the correct equilibrium point.)
•
Follow the logic of the change being described and then get the market back to equilibrium. Note
the possible changes in PL that occur due to the change being described.
Directions
For each scenario, draw an aggregate model, show the change described, follow the logic and return the
market to FE equilibrium:
4. Something decreases SRAS and moves it inward (negative supply shock), moving the SRAS from
FE equilibrium.
A. PL will change how? INCREASES Real GDP/Output will change how? DECREASES
B. What will happen to unemployment? INCREASES The overall PL and unemployment
change is called by what unique term? STAGFLATION
C. Real wages will do what as SRAS shifts? DECREASE
D. Because of the change in real wages, business input costs will do what? INCREASE TO
KEEP UP WITH EMPLOYEES DEMAND FOR HIGHER WAGES
E. Businesses will now have to do what to the unemployment rate? INCREASE IT
F. Eventually, what will have to happen to aggregate nominal wages to change the cycle of
inflation? BUSINESSES WILL DECREASE THEM What will this do to real wages in the short
run? DECREASE THEM EVEN FURTHER
G. The nominal wage rate change will now change businesses’ input costs how? DECREASE
THEM
H. As a result of this final change in input costs, businesses can do what to SRAS to get the
economy back to FE? SLOWLY MOVE IT BACK OUTWARD (THERE IS NO EASY FIX FOR
STAGFLATION.)