IBonomicsLong Run Economic Growth – Keynesian AS ModelSL
MacroeconomicsThis diagram shows long-run economic growth using the Keynesian AS model, where potential output expands as LRAS shifts rightward.
Curves and elements
- ad
- AD: Aggregate demand, assumed constant in this diagram.
- lras1
- LRAS1: Original long-run aggregate supply at potential output Y1.
- lras2
- LRAS2: New LRAS showing increased capacity at output Y2.
- pl1
- PL1: Initial price level before supply-side improvements.
- pl2
- PL2: Lower price level after LRAS shifts outward.
- y1
- Y1: Original level of real GDP.
- y2
- Y2: Higher level of real GDP following growth in potential output.
Key explanations
- 1
In the Keynesian AS model, the aggregate supply curve is upward sloping and becomes vertical at full employment output.
- 2
The initial equilibrium is at Y1 and PL1, where AD intersects LRAS1.
- 3
An outward shift from LRAS1 to LRAS2 represents an increase in the economy's productive capacity due to improvements in factors of production such as human capital, infrastructure, or technology.
- 4
This shift increases real output from Y1 to Y2 and reduces inflationary pressure, shown by a fall in the price level from PL1 to PL2.
- 5
This model is useful for showing how supply-side policies can lead to sustainable, non-inflationary economic growth over time.
Example exam question
Using a Keynesian AD/AS diagram, explain how supply-side policies can lead to long-run economic growth.
Show example answer
In the Keynesian AD/AS diagram, long-run growth is shown by a rightward shift of the LRAS curve from LRAS1 to LRAS2. This represents an increase in the economy's potential output due to improvements in factors of production. Real GDP increases from Y1 to Y2, while the price level falls from PL1 to PL2, indicating non-inflationary growth.
