Macroeconomics

‭This‬‭graph‬‭helps‬‭visualize‬‭how‬‭the‬‭economy's‬‭performance‬‭relates‬‭to‬‭its‬‭capacity.‬‭A‬‭positive‬‭output‬‭gap‬ ‭suggests‬ ‭inflationary‬ ‭pressures,‬‭whereas‬‭a‬‭negative‬‭output‬‭gap‬‭suggests‬‭disinflationary‬‭or‬‭deflationary‬ ‭pressures.‬ ‭Policymakers‬ ‭monitor‬ ‭the‬ ‭output‬ ‭gap‬‭to‬‭make‬‭informed‬‭decisions‬‭about‬‭economic‬‭policies,‬ ‭such‬‭as‬‭fscal‬‭stimulus‬‭or‬‭monetary‬‭tightening,‬‭to‬‭bring‬‭the‬‭economy‬‭closer‬‭to‬‭its‬‭potential‬‭and‬‭achieve‬ ‭stability.‬ ‭Long-Run Macroeconomic Equilibrium‬ ‭One‬‭way‬‭to‬‭think‬‭about‬‭the‬ ‭long-run‬‭macroeconomic‬‭equilibrium‬ ‭is‬‭that‬‭it’s‬‭really‬‭two‬‭equilibriums:‬ ‭one‬ ‭where‬ ‭AD‬ ‭intersects‬ ‭with‬‭SRAS‬‭(short‬‭run)‬ ‭,‬‭and‬‭another‬ ‭where‬‭the‬‭AD,‬‭SRAS,‬‭and‬‭LRAS‬‭curves‬‭all‬ ‭intersect‬ ‭together.‬‭At‬‭this‬‭point‬‭where‬‭all‬‭three‬‭curves‬‭meet,‬‭long-run‬‭equilibrium‬‭is‬‭achieved‬‭(point‬‭Y‬‭in‬ ‭the diagram below).‬ ‭When‬‭the‬‭AD-AS‬‭model‬‭is‬‭at‬‭long-run‬‭equilibrium,‬ ‭output‬‭is‬‭neither‬‭too‬‭low‬‭nor‬‭too‬‭high;‬‭it’s‬‭just‬‭right‬ ‭.‬ ‭This‬‭means‬‭that‬‭the‬ ‭current‬‭output‬‭(Y₁)‬‭is‬‭equal‬‭to‬‭the‬‭potential‬‭output‬‭(Y‬ ‭f‬ ‭)‬ ‭.‬‭This‬‭is‬‭due‬‭to‬‭the‬‭fact‬‭that,‬ ‭in the long run, prices have fully adjusted, allowing the economy to produce at its full potential.‬

‭Efects of Demand Shocks on Short-Run Equilibrium‬ ‭As‬ ‭seen‬ ‭in‬ ‭Section‬ ‭A‬ ‭of‬ ‭this‬ ‭chapter,‬ ‭several‬ ‭components‬ ‭cause‬ ‭a‬ ‭shift‬ ‭of‬ ‭the‬ ‭AD‬ ‭curve.‬ ‭When‬ ‭this‬ ‭happens‬ ‭in‬ ‭the‬ ‭short‬ ‭run‬ ‭(on‬ ‭the‬ ‭SRAS‬ ‭curve),‬ ‭both‬ ‭the‬‭price‬‭and‬‭output‬‭levels‬‭are‬‭affected‬ ‭.‬‭This‬ ‭causes‬‭the‬‭economy‬‭to‬‭move‬‭either‬‭closer‬‭to‬‭or‬‭farther‬‭from‬‭the‬‭potential‬‭output‬‭(LRAS),‬‭depending‬‭on‬ ‭where the economy currently stands.‬ ‭Demand‬‭shocks‬ ‭are‬‭unexpected‬‭changes‬‭that‬ ‭shift‬‭the‬‭AD‬‭curve‬ ‭.‬‭A‬ ‭positive‬‭demand‬‭shock‬ ‭(e.g.,‬‭due‬‭to‬ ‭tax‬‭cuts‬‭that‬‭encourage‬‭consumption)‬ ‭increases‬‭AD‬‭shifting‬‭its‬‭curve‬‭to‬‭the‬‭right‬ ‭.‬‭This‬‭results‬‭in‬ ‭higher‬ ‭price‬‭and‬‭real‬‭output‬‭levels‬ ‭.‬‭Alternatively,‬‭a‬ ‭negative‬‭demand‬‭shock‬ ‭(e.g.,‬‭due‬‭to‬‭pandemics‬‭that‬‭make‬ ‭people more inclined to save rather than consume)‬ ‭decreases AD shifting its curve to the left.‬ ‭This results in‬ ‭lower price and real output levels,‬ ‭as illustrated in the diagrams below.‬

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