SRAS (Keynesian AS)By: Haodi Zhang

Definition

“The total amount of goods and services that all the firms in all the industries in a country will produce at every price level in a given period of time. “

Economics Textbook p. 274

SRAS

Early 20th-century economist

Maynard Keynes

Real GDP

Aver

age

Pric

e Le

vel

SRAS

P2

P1

Y1 Y2

Inelastic Area

Elastic Area

SRAS

PE

YFE

LRAS

AD1

Aver

age

Pric

e Le

vel

Full employment-level of output

Very low unemployment

Stable price (low inflation)

Resources are generally being used efficiently and near their full capacity

Real GDP

SRAS Below Full-Employment

Decrease in AD

Fall in price level and output (real GDP)

Equilibrium falls

Workers are laid off

Small decrease in price level leads to a large decrease in output

Real GDP

SRAS

PE

P1

Y1 YFE

LRAS

AD1AD2

Aver

age

Pric

e Le

vel

SRAS Below Full-Employment

Further decrease in AD

Further fall in price level and output (real GDP)

Equilibrium falls

More workers are laid off

The decline in output is proportionally larger than the decline in price level, due to the high elasticity under full-employment level

Real GDP

SRAS

PE

P1

Y1 YFE

LRAS

AD1AD2AD3

Y2

P2

Aver

age

Pric

e Le

vel

SRAS Below Full-Employment

Why are workers laid off? Firms must lower the price due to

fall in demand

Wages and prices are inflexible in the short run, therefore, wage cannot be reduced

“Fixed-wage period”

Labor market rigidities protect workers from low wages

Labor Market Rigidities

Government regulations

Minimum wage laws

Wage agreement with labor unions

Workers contract

Real GDP

SRAS

PE

P2

Y1YFE

LRAS

AD1

AD2

AD3

Y2

P1

Aver

age

Pric

e Le

vel

AD rises

Small increase in output and increase in average price level (inflation)

Production beyond full employment level

SRAS Beyond Full-Employment

How is production beyond full-employment possible?

Full-employment does not mean zero unemployment

There are still workers who are willing and able to work but are employed

It is when the unemployment is low and stable

Nearly all the land, capital and labor are engaged in production of goods

What happens to workers? More workers are employed in

response to the high demand

Unemployment falls

Workers becomes scarce so output increases at a decreasing rateJob

Contract

Cause of Increase in SRAS• Government subsidies to producersG• Improvement in productivityI• Reduction in minimum wageR• Lower resource costL• Stronger currencyS• Better infrastructureB• Fall in wage rateF

Real GDP

SRAS1

PE

Y1YFE

LRAS

AD1

P1

Aver

age

Pric

e Le

vel

SRAS2

Right-Ward Shift of SRAS Increase in output and

decrease in price

Increase in employment

Becomes more efficient in production

Causes of Decrease in SRAS

• Higher business taxesH

• Increase in resource costsI

• Weaker currencyW

• Increase in minimum wageI

Real GDP

SRAS1

PE

Y1 YFE

LRAS

AD1

P1

Aver

age

Pric

e Le

vel

SRAS2

Left-Ward Shift of SRAS Decrease in output and

increase in price

Decrease in employment

Lead to inflation and decline in real GDP

Real World Example Japan does not lay off workers but rather decreases

their wages

Therefore, full capacity is never met because of the lack of efficiency

When the AD decreases, the SRAS does not adjust to the full capacity

There is a simple decrease in price and real GDP

http://www.bbc.co.uk/news/business-21136866

Real GDP

SRAS1

P1

Y2Y1

LRAS1

AD1

P2

Aver

age

Pric

e Le

vel

SRAS2

LRAS1

Japan’s SRAS (export) Japan does not lay off

workers but rather decreases their wages

Therefore, full capacity is never met because of the lack of efficiency

When the AD decreases, the SRAS does not adjust to the full capacity

There is a decrease in price and increase in real GDP

Conclusion The total amount of

goods a country will produce at every price level in a given period of time.

There is a elastic and inelastic zone

LRAS indicated full-employment

SRAS

PE

YFE

LRAS

AD1

Aver

age

Pric

e Le

vel

Real GDP