Questions and Answers
Define long run.
A time period long enough that all factors of production can be changed.
Define Long Run Aggregate Supply.
The maximum level of output an economy can produce using all factors of production at sustainable levels.
What is the neo-classical LRAS curve?
The classical LRAS curve is fixed and vertical at the full employment level of output.
Why is the neo-classical LRAS fixed at the full employment level of output?
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Why do neo-classical economists believe the LRAS curve is vertical (perfectly inelastic)?
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What is the key difference between the neo-classical LRAS curve and the Keynesian LRAS curve?
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Why is the Keynesian LRAS curve horizontal (perfectly elastic) at low levels of output/real GDP?
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What does a horizontal LRAS curve at low levels of GDP indicate about the price level?
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What do Keynesian economists believe happens at the horizontal full capacity level of output on the LRAS curve?
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What do Keynesian and neo-classical economists agree on and why?
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What causes a shift in the LRAS curve either left or right?
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What are the 6 determinants of shifts in the LRAS curve?
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How can improvements in the productivity of labour lead to a shift in the LRAS curve?
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How can increased investment lead to a shift in the LRAS curve?
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How can infrastructure improvements lead to a shift in the LRAS curve?
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How can competition lead to a shift in the LRAS curve?
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How can immigration lead to a shift in the LRAS curve?
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How can the institutional structure of the economy lead to a shift in the LRAS curve?
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Study Notes
Long Run Definition
- Long run refers to a time period sufficient for all factors of production to be adjusted.
Long Run Aggregate Supply (LRAS)
- LRAS denotes the maximum sustainable output level of an economy using all production factors.
Neo-Classical LRAS Curve
- The neo-classical LRAS curve is vertical and fixed at full employment output, reflecting a single long-run equilibrium.
Full Employment Output
- Classical economists assert a return to one equilibrium output level (YF1) in the long run, justifying the vertical nature of the LRAS curve.
Price Level Independence
- Neo-classical thinkers claim LRAS is perfectly inelastic since potential output relies solely on production factors, independent of price levels.
Differences in Economic Theories
- Neo-classical economists maintain operation at the natural unemployment rate, while Keynesians acknowledge the potential for unemployment above this rate in the long run.
Keynesian LRAS Characteristics
- At low output levels, the Keynesian LRAS curve is horizontal, indicating spare capacity and the ability to increase output without straining production factors.
Demand-Pull Inflation
- A horizontal LRAS at lower GDP levels suggests real GDP can rise without inciting demand-pull inflation.
Full Capacity Pressure
- Keynesians note that reaching horizontal full capacity raises production costs, pressuring input costs and leading to higher inflation rates.
Agreement Between Economists
- Both Keynesian and neo-classical economists agree that at full capacity, real GDP cannot grow without triggering inflation, causing LRAS to become vertical.
Shifts in LRAS Curve
- LRAS shifts left or right due to changes in the quantity/quality of production factors or improvements in productive efficiency.
Determinants of LRAS Shifts
- Major determinants include labor productivity, investment, infrastructure enhancements, competition levels, immigration, and institutional quality.
Productivity Improvements
- Enhancements in education and training uplift labor skills, thereby increasing the quality of human capital and shifting LRAS rightward.
Role of Investment
- Investments in machinery, technology, or new facilities boost capital stock and productive efficiency, resulting in a rightward shift of LRAS.
Infrastructure Impact
- Improvements in transport infrastructure lower production costs by facilitating quicker and more efficient goods movement, enhancing competitive efficiency.
Effect of Competition
- Measures like privatization and deregulation necessitate efficiency among firms, leading to lower costs and prices, thus increasing overall productive efficiency.
Immigration Influence
- An influx of working-age immigrants expands the labor force and potentially improves quality, shifting the LRAS curve to the right.
Institutional Structure Role
- Efficient banks and intermediaries bridge savers and borrowers, supporting economic growth by enabling firms to access necessary financing.
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Description
Test your understanding of long run concepts in economics with this quiz. Explore definitions and characteristics of Long Run Aggregate Supply, including the neo-classical LRAS curve. Perfect for students studying macroeconomic theory.