Short run and long run influence

Question

Use graphical analysis to illustrate how each of the following would influence the economy first in the short run and then in the long run. Suppose that Canada is primarily operating at its full-employment level of output, that prices and wages are ultimately flexible upward and downward both, and that there is no counteracting fiscal or monetary policy.

a. Due to a war abroad, the oil supply to Canada is disrupted, sending oil prices rocketing upward.

b. Construction spending on new homes increase dramatically, greatly rising total Canadian investment spending.

c. Economic recession takes place abroad, significantly dropping foreign purchases of Canadian exports.

Answer 1

(a) Short run: The aggregate supply curve shifts towards the left, the price level increase, and real output reduces.  Long run:  The aggregate supply curve shifts back rightward (because of declining nominal wages), the price level drop, and real output enhance.

(b) Short run: The aggregate demand curve shifts toward the right, and the price level and real output both increase.  Long run:  The aggregate supply curve shifts to the left (because of higher nominal wages), the price level increase, and real output drop.

(c) Short run: The aggregate demand curve shifts towards the left, the price level and real output both decline.  Long run: The aggregate supply curve shifts towards the right, the price level drop further, and real output enhance.