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Economics Principles, Problems, and Policies
The mainstream view of macroeconomic instability emphasizes sticky prices. To answer the following questions, modify the aggregate supply curve in the extended AD-AS model introduced in Chapter $35 .$ First, imagine that both input and output prices are fixed. What does the aggregate supply curve look like? If AD decreases in this situation, what will happen to equilibrium output and the price level? Next, imagine that input prices are fixed, but output prices are flexible. What does the aggregate supply curve look like? In this case, if AD decreases, what will happen to equilibrium output and the price level? Finally, if both input and output prices are fully flexible, what does the aggregate supply curve look like? In this case, if AD decreases, what will happen to equilibrium output and the price level? (Hint: If you are having trouble drawing these three aggregate supply curves, review the immediate-short-run aggregate supply curve and the short-run aggregate supply curve introduced in Chapter 29 as well as the long-run aggregate supply curve introduced in Chapter $35 .$ )