ECON 102 Lecture Notes - Longrun, Shortage, Negative Relationship

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Published on 17 Apr 2013
School
UBC
Department
Economics
Course
ECON 102
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Endogenous Factors: Price Adjustments 02-27-2013
Time Frames in Economics
Defined not by length of time, but rather according to which variables are assumed to
change.
Short run
Factor Price Adjustment Period
Long Run
Short Run Assumptions
Factor prices are exogenous ex. fixed
Technology and Factor Supplies are constant affects Y*
o PPB is fixed; therefore, Potential Output is also constant
Exogenous shocks to supply and demand cause fluctuation around Y*
In the short run, equilibrium, is determined by the intersection of the AS and AD curves
Factor Price Adjustment Assumptions
Factor prices are flexible and adjust to output gaps
Technology and factor supplies are constant
Long run equilibrium occurs when AS = AD and factor prices are fully adjusted
Long Run Assumptions
Factor prices have fully adjusted to output gaps
o Therefore, there are no more output gaps (eliminated)
o Real GDP = Potential level
Technology and Factor Supplies are changing
Output Gaps and Factor Prices
Recessionary Gap
Short run equilibrium where two curves cross
But Y0 < Y* recessionary gap
Relationship between recessionary gap and intensity of resource use: some
resources are sitting idle that can possibly be productive
o Firms producing below potential output
o Demand for factors of production is low
If the demand for a commodity decreases, the demand for the factors of that
commodity decreases as well.
As the factor prices fall, AS curve shifts to the right Real GDP returns to its
Potential Level (Y*)
Summary:
1. In a recessionary gap, resources are underutilized some factors are idle
2. There is an over-supply of factors
3. This puts downward pressure on factor prices
4. Which decreases unit costs for firms
5. AS increases and shifts to the right
Exam question: Explain the factor price adjustment process in a recessionary
gap.
Points 1,3,4,5 Complete answer
Inflationary Gap
Real GDP is above Potential GDP
Resources are being over-utilized firms are demanding more resources than
people want to supply (ex. everyone working 45 hours a week)
Excess demand for factors (labour) upward pressure on price of wage AS
falls
Summary:

Document Summary

Defined not by length of time, but rather according to which variables are assumed to change. Technology and factor supplies are constant affects y: ppb is fixed; therefore, potential output is also constant. Exogenous shocks to supply and demand cause fluctuation around y* In the short run, equilibrium, is determined by the intersection of the as and ad curves. Factor prices are flexible and adjust to output gaps. Long run equilibrium occurs when as = ad and factor prices are fully adjusted. Factor prices have fully adjusted to output gaps: therefore, there are no more output gaps (eliminated, real gdp = potential level. Short run equilibrium where two curves cross. But y0 < y* recessionary gap. Relationship between recessionary gap and intensity of resource use: some resources are sitting idle that can possibly be productive: firms producing below potential output, demand for factors of production is low.