Long-run aggregate supply - Neo classical (Impacts of changing equilibrium…
Long-run aggregate supply - Neo classical
Belief the LRAS Curve is perfectly inelastic (vertical) at the
level of output.
Belief the potential output of the economy is dependant on the quality and quantity of the FOP's, NOT the PL
Thus, the LRAS Curve is independent of the PL
Shifts in AD
ANY shifts in the AD curve will result in an increase in PL not real output as all FOP's are in full employment
The economy is at its long run equilibrium - Yf. When the AD curve shifts to the right, in the short run, there will be an increase in total output however, this will eventually return to the long run equilibrium line due to the increase in price level of FOP's.
Real output returns to the orignal full employment level but at a different price level = purely inflationary
The right shift of the AD curve in this model will always be inflationary as the economy is at full employment level thus, real output cannot increase in the long run, only price level will.
The economy will always move towards the long run equilibrium at the full employment level of output (horizontal line) = Long run equilibrium is where the AD curve meets the LRAS curve
Factors causing shifts to the long-run
Due to changes in the quality or quantity of FOP's =
Reduction in unemployment (link to business cycle)
These changes can be done using supply side policies
As economic growth occurs, the LRAS curve gradually shifts to the right = increasing potential output
Shifts in LRAS
This will have an immensely favourable approach.
This will cause a right shift of the full employment level line from LRAS1 to LRAS2 and a fall in the price level (movement along the AD curve)
Impacts of changing equilibrium:
= outward migration of workers
:arrow_down: business capital investments
:arrow_up: production costs
Effects of a major natural disaster / shock