Equilibrium Output and Price Assignment Help

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Equilibrium Output and Price:

It is mentioned  above  that aggregate supply  curve (AS)  is upward sloping (in the short run) while aggregate demand curve  (AD)  is  downward  sloping.  Through  the  intersection of  aggiegate  supply and aggregate  demand  curves we obtain  equilibrium  levels  of  output and prices.  

2409_Equilibrium Output and Price.png

In Fig. aggregate supply  is given by  the line  AS1 and aggregate demand  is given by the line AD1 Corresponding to the equality between AS1 and AD1 we find that the equilibrium level of output  is Q1 and equilibrium price level is P1. Suppose  there is a downward shift  in  aggregate demand from  AD1 to AD2 due  to changes  in  the  levels of its components.  Accordingly.  the equilibrium  levels output and price will change to Q2 and P2.

Certain questions may be shaping  up ii: your mind at this  point. How soon does  such  a change  in output level take place? What  is  the impact of such  a change  on  the level of employment? If Q,  represents full employment equilibrium,  does  the economy ever regain  its  full employment output level?

When  there  is  a decline  in AD  the  immediate impact  is  a downward  shift  in the output level. Consequently,  there  is a rise in unemployment  in  the economy which pushes  the wage  rate downward. The decline  in wage rate is  likely  to  reduce cost of production  and hence price  level. As a  result,  the AS curve will shift  downward.  'The whole process. however,  takes  time as  the decline  in nominal wage and prices is not instantaneoys. Therfore,  in  the short  run output declines  below full employment  level but in  the long it returns  to its  full  employment level. So  long on  output remains below  full employmdnt level, there  is a  thendency for wage rate to decline. Through adjustments in  wage rate and prices the output level  recovers  to  its  full employment  level,  although with considerable delay. Once  full employment  is  realised, increase  in AD will result  in price rise. Thus fluctuations  in  output, wage  rate and price level are  a  partof  the  process. Such fluctuations are  often systenlatic  and called business cycles.

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