Glossary
Aggregate demand (AD)
The total quantity of all goods and services demanded in an economy at different price levels, comprising consumption, investment, government spending, and net exports.
Example:
A sudden surge in consumer confidence, leading to more spending, would cause the aggregate demand curve to shift to the right.
Downward pressure on wages
A market force that causes nominal wages to fall or grow more slowly, typically occurring during periods of high unemployment when there is an excess supply of labor.
Example:
When many people are looking for jobs and few are available, job seekers might accept lower pay, creating downward pressure on wages across the economy.
Fiscal and monetary policies
Government actions (fiscal) and central bank actions (monetary) used to influence the economy, often to stabilize it during periods of recession or inflation.
Example:
To combat a recession, the government might use fiscal policies like increased spending, while the central bank might use monetary policies like lowering interest rates.
Full employment level of output
The maximum sustainable output an economy can produce when all available resources, including labor, are fully and efficiently utilized, corresponding to the natural rate of unemployment.
Example:
When the economy is producing at its full employment level of output, it's like a well-oiled machine, using all its available workers and capital without overworking them.
Inflationary gap
A situation where the economy's actual output exceeds its full employment potential, leading to unsustainably low unemployment and upward pressure on prices.
Example:
When the economy is experiencing an inflationary gap, businesses are operating beyond their normal capacity, perhaps by paying overtime or using older, less efficient equipment, leading to rising costs.
LRAS (Long-Run Aggregate Supply)
A vertical curve representing the economy's potential output at the full employment level, determined by its available resources, technology, and institutions, independent of the price level.
Example:
An increase in a country's population or a significant investment in new factories would shift the LRAS curve to the right, indicating greater potential output.
Long-run equilibrium
The state where the economy is producing at its full employment level of output, with no cyclical unemployment and stable prices in the long run.
Example:
After a temporary economic downturn, the economy will eventually return to its long-run equilibrium where factories are operating at their normal capacity and unemployment is at its natural rate.
Natural rate (of unemployment)
The unemployment rate that exists when the economy is producing at its full employment level of output, consisting only of frictional and structural unemployment.
Example:
Even when the economy is healthy, there will always be some people temporarily between jobs or whose skills no longer match available positions, contributing to the natural rate of unemployment.
Permanent shocks
Unexpected events that fundamentally alter an economy's productive capacity, leading to a lasting change in its long-run aggregate supply.
Example:
A devastating natural disaster that destroys significant infrastructure or a major scientific discovery that boosts productivity are examples of permanent shocks.
Price adjustments
The process by which changes in the overall price level, particularly wages, help the economy return to long-run equilibrium after a short-run shock.
Example:
During a recession, falling demand can lead to price adjustments as businesses lower prices and wages to attract customers and reduce costs.
Price and wage flexibility
The degree to which prices and wages in an economy can quickly adjust upwards or downwards in response to changes in supply and demand.
Example:
Economies with high price and wage flexibility tend to self-correct more quickly after economic shocks, as markets can rapidly rebalance.
Recessionary gap
A situation where the economy's actual output is below its full employment potential, resulting in higher-than-natural unemployment.
Example:
During a recessionary gap, many factories might be sitting idle and a significant portion of the workforce is unemployed, indicating underutilized capacity.
Resources
The fundamental inputs to production, including labor, capital, natural resources, and technology, which determine an economy's long-run productive capacity.
Example:
A nation's ability to produce goods and services in the long run depends heavily on its resources, such as its skilled workforce, advanced machinery, and abundant raw materials.
SRAS (Short-Run Aggregate Supply)
An upward-sloping curve showing the total quantity of goods and services firms are willing and able to produce at different price levels, assuming nominal wages and other input prices are fixed in the short run.
Example:
If the cost of raw materials suddenly increases, the SRAS curve would shift to the left, meaning firms would produce less at any given price level.
Self-correcting mechanisms
The inherent tendencies within a market economy, primarily through wage and price adjustments, that automatically push the economy back towards its long-run equilibrium after a short-run shock.
Example:
Even without government intervention, the economy has self-correcting mechanisms that, over time, will resolve imbalances like high unemployment or inflation.
Shocks
Unexpected events that cause significant shifts in aggregate demand or aggregate supply, disrupting the economy's equilibrium.
Example:
A sudden global pandemic or a major technological breakthrough can act as economic shocks, drastically altering consumer spending or production capabilities.
Short run
A period in macroeconomics where nominal wages and other input prices are sticky or fixed, meaning they do not immediately adjust to changes in the price level.
Example:
In the short run, if demand suddenly drops, businesses might reduce production and lay off workers before they can renegotiate wages or rent.
Upward pressure on wages
A market force that causes nominal wages to rise, typically occurring during periods of low unemployment when there is a high demand for labor.
Example:
When there are more job openings than available workers, companies must offer higher salaries to attract talent, leading to upward pressure on wages.