In macroeconomics, the performance of the economy is measured with respect to short-run that deals with unexpected diminish in AD that leads to surplus. The focus is mostly on the demand and supply of all commodities and services that are produced in the economy. It is also measured with respect to LR that deals with inflation, which acts as a key impact of the rise in aggregate demand. Macroeconomics, mostly consider the nationwide market of the economy and as a result, it deals with production and distribution of all commodities and services (Gandolfo, 2013).
The essay provides a brief overview about LRAS and the SRAS curve. It also examines the SR equilibrium as well as the challenges that are faced in the short run. It illustrates the AD curve, LRAS as well as SRAS. A brief overview related to the effect of government policy as well as SR and LR equilibrium has also been illustrated.
AD indicates the demand for all individual commodities and services that are combined together. It also represents the overall quantity of all commodities that are demanded by the economy at diverse level of prices.
The vertical axis illustrates the level of price of all final commodities and services. The aggregate level of price is measured by either the deflator of GDP or by consumer price index (Broda, 2014).
In economics, AD implies the overall supply of commodities and services that firms in the domestic economy desires to sell at a given level of price. In the long-run, AS curve is mostly affected by capital, labor and technology. The LRAS is considered stagnant as it shifts slowly among the three ranges of the AS curve. On the other hand, in the SR, the AS curve is mostly upward sloping and it shifts in relation to changes in the level of price as well as production (Kaldor, 2015).
Equilibrium is accomplished in the short-run, when both the AD and SAS intersects. However, the equilibrium point gets changed when either AD or SAS curve shifts.
The above figure shows that the shift of the AD curve towards the right will cause the equilibrium output and price to increase. It is imperative for an economy to accomplish equilibrium in the all the markets such as labor market as well as product market in order to flourish.
The diagram illustrates AD and AS curve. E1 illustrates short-run equilibrium where the equilibrium price is denoted by P1 and equilibrium output is denoted by Y1. It shows an outward movement of the supply curve from S1 to S2 due to sudden shocks in the SRS curve. In the short-run, the factors that are used in the production are mostly fixed (Rao, 2016).
Government mostly plays an imperative role to bring the stability back in the economy that is lost in the short-run. They make use of certain measurable changes that will be able to bring the stability in the market. The measurable changes are implemented by using both expansionary and fiscal measures. There are particular contractionary measures that are implemented by the government in order to diminish productivity in the market. However, on the other hand, the government takes expansionary fiscal policy in order to surmount the deficit in productivity. Using these measures, the present situation of economy is re-stabilized. The alterations are incorporated by the government at the level of taxation as well as at the level of employment (Stiglitz, 2015).
The LR supply curve is perfectly vertical that reflects the belief of economists regarding the fact that changes in AD only leads to interim change in the total real output of the economy.
The diagram shows that equilibrium in the long-run takes place when intersection takes place between AS1, AD1 and LRAS. At the point of intersection, the SR equilibrium real GDP equals to the LR real output. The AD mostly shifts from AD1 to AD curve due to changes in some fiscal policy measures. This will in turn shift the point of equilibrium away from the long-run equilibrium that was accomplished earlier. This will in turn lead to increase the level of price as well as increase in the level of output. This indicates the new short run equilibrium that takes place in the economy (Buiter, 2014). The AS curve is also likely to increase from AS1 to AS2 with the movement of the economy towards the long-run. This will in turn shift the point of equilibrium to provide a coalition with the long-run equilibrium. With the help of the expansionary measures, the level of output and price gets increased in the short-run however; the contractionary measures decreases the level of output and price.
It can be thus concluded that a stable equilibrium requires the economy to produce a level of output at which intersection takes place between the aggregate demand curve, the long run aggregate supply curve and the short run aggregate supply curve. It can also be concluded that the intervention of the government takes place in the short-run in order to restore instabilities in the market. The economic instabilities are thus minimized in the LR through stabilisations policy and welfare of the economy.
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Buiter, W. H. (2014). Temporary Equilibrium and Long-Run Equilibrium (Routledge Revivals). Routledge.
Gandolfo, G. (2013). International Economics II: International Monetary Theory and Open-Economy Macroeconomics. Springer Science & Business Media.
Kaldor, N. (2015). Keynesian economics after fifty years. In Essays on Keynesian and Kaldorian Economics. Palgrave Macmillan UK. , (pp. 27-74).
Rao, B. B. (2016). Aggregate demand and supply: a critique of orthodox macroeconomic modelling. Springer.
Stiglitz, J. E. (2015). Economics of the Public Sector: Fourth International Student Edition. Norton & Company.