3.2.4—Alternative views of aggregate supply
- Syllabus
- First assessment 2022
- Objective
- 3.2.4
- Level
- HL
AS models make different claims about spare capacity
Alternative AS models differ in how output responds when the economy has spare capacity or is close to full employment.
The monetarist/new-classical view uses a vertical LRAS at potential output and expects temporary gaps to self-correct. The Keynesian view uses an elastic-to-vertical AS: demand can raise output when resources are idle, but mainly raises prices near capacity.
A stimulus in a recession with unused factories can increase real output with limited price pressure in the Keynesian model. The same stimulus near full employment mainly produces an inflationary gap.
Compare spare capacity, wage flexibility and the time horizon before predicting whether a demand change affects output, prices or both.
An inflationary output gap means output is above estimated potential; it is not the same definition as the inflation rate.
Diagram the monetarist/new-classical LRAS as vertical at potential output: an AD intersection to the left is a deflationary/recessionary gap and one to the right is an inflationary gap. Diagram Keynesian AS with a relatively flat section when spare capacity is large, an upward-sloping section as bottlenecks appear and a vertical section at full-employment output. Curve shapes represent assumptions about unused resources, wage-price flexibility and capacity—not different axis variables.