Suppose the economy is in long run equilibrium if there is a...

Suppose the economy is in long-run equilibrium. If there is a sharp decline in government purchases combined with a significant increase in immigration of skilled workers, then in the short run, a. the price level will rise, and real GDP might rise, fall, or stay the same. In the long run, real GDP will rise and the price level will fall. b. the price level will fall, and real GDP might rise, fall, or stay the same. In the long-run, real GDP and the price level will be unaffected. c. the price level will fall, and real GDP might rise, fall, or stay the same. In the long run, real GDP will rise and the price level will fall. d. real GDP will rise and the price level might rise, fall, or stay the same. In the long-run, real GDP will rise and the price level might rise, fall, or stay the same.

Transcript

00:01 So the question starts off by saying the economy is in long run equilibrium.

00:04 Let's draw before we do anything else an economy in long run equilibrium.

00:08 Adas is a story about the price level versus output.

00:12 We have a vertical long run aggregate supply firm, right, which represents economic capacity, our ability to produce goods and services.

00:22 We have a downward sloping aggregate demand curve, and this represents our c plus i plus g plus and we have an upward sloping aggregates or short run aggregate supply curve which represents firm pricing right the prices that firms need to supply a certain amount of goods given the structure of the economy in long run equilibrium all of these things are equal and that is what we call potential output so now we have two shocks we have shock one government purchases are going to fall.

01:04 So this is going to affect aggregate demand, right? the first shock is going to shift aggregate demand to the left, right? so aggregate demand is going this way.

01:16 That was a bad arrow.

01:17 Can i draw a better arrow? slightly better arrow.

01:21 The shock two is a little bit more difficult to parse.

01:25 Shock 2 says that skilled immigration is up.

01:35 So skilled immigration is not easily mapable to the aggregate demand, aggregate supply model.

01:43 So we have to make a choice.

01:44 And my argument is that this affects her economic capacity.

01:48 With many more skilled immigrants, we can produce more, right? we are going to be have more workers who can do more useful things, and they are going to be able to allow us to produce more.

02:04 It doesn't affect the pricing decisions of firms directly, right? this is not like changing the cost of an input good, but you could argue it does, right? you might say instead of shifting the lras to the right, which i'm going to argue is what it does, i think that's a the best way to model it, you could say as an alternative, right, maybe this reduces wages, right, as well.

02:35 And that might shift the short -run aggregate supply curve, right? this would shift the short -run aggregate supply curve down as firms get access to cheaper labor.

02:45 So there's not always one perfect way to answer these.

02:49 What's important is being able to apply the model in a consistent way.

02:52 So what i'm going to do is to reflect the immigration, as shifting our l -ras curve.

03:00 So in the short -run equilibrium, right, the equilibrium will be here.

03:04 This is going to be my short -run equilibrium, the intersection of aggregate supply and short -run, sorry, the intersection of aggregate demand and the short -run aggregate supply.

03:15 But this is not a long -run equilibrium because the output initially is too low, right? in the long run, we've got to be at long -run aggregate supply.

03:26 And the way that happens is, so let me clarify this...

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