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Using AD/AS analysis, describe and illustrate two cases where economy gets stuck in recession and does not return quickly to its natural level of output.

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Introduction

Using AD/AS analysis, describe and illustrate two cases where economy gets stuck in recession and does not return quickly to its natural level of output. Economy is fluctuated by the changes in aggregate supply or aggregate demand and it is shocked by the exogenous changes in those curves. Economists call a shock that shifts the demand curve a demand shock and a shock that shifts the supply curve a supply shock (Mankiw, 1999). In this essay, we will describe how these shocks would push the economy's output away from its natural level and look at how government keeps its output back to the original level as close as possible. Demand shock In this essay, we assume in short-run, all prices are fixed. ...read more.

Middle

The shift of AD causes the output decreases from Y1 to Y2. At the same time, prices stay at the old level P1, suppliers produce less output Y2 and this causes an economy recession in short-run. Government's reaction to the shocks is to use stabilization policy which aims to reduce the short-run economic fluctuation (Mankiw, 1999). Economists lower the short-run aggregate supply (SRAS2) and this action pushes the output back to its original level Y1(Point B to C). However the prices stay at the lower level P2. Supply shock The supply shock is always related to the price-changes that firms charge (Mankiw, 1999). For example, an increase in union aggressiveness and this pushes up wages and prices of the goods produced by union workers. ...read more.

Conclusion

So the long-run price level is still P1 and output goes back slowly to its natural level. This option casts long time and a painful recession. The second solution is using fiscal or monetary policy. They increase government expenditure, money supply or reduce tax rate to expend aggregate demand and move the curve outward to AD2. So the output returns much more quickly to its natural level (Point B to C). The only problem is the prices permanently stay at the higher level P2. "There is no way to adjust aggregate demand both to maintain full employment and to keep the price level stable. (Mankiw, 1999:252)" Economy usually gets stuck in recession by the shocks to demand and supply. The shocks could keep the output away from its natural level for a short period, but in the long run, it always returns. Reference Kankiw, N.G. (1999) Macroeconomics. Worth: New York. 1 ...read more.

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Response to the question

This essay engages at a good level to this essay. There is awareness that recession can be caused by external factors, or supply and demand shocks. The analysis of what these shocks will do the economy is good, but I ...

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Response to the question

This essay engages at a good level to this essay. There is awareness that recession can be caused by external factors, or supply and demand shocks. The analysis of what these shocks will do the economy is good, but I don't think that the question fully engages with the task. There isn't enough discussion around long-term recession or slumps, for which the question prompts to discuss. By neglecting this, the essay won't be able to pick up top marks!

Level of analysis

The level of analysis is sound, using diagrams and analysing shifts to display the necessary skills. I particularly liked how each shift and change on the diagram is explained, for example "The shift of AD causes the output decreases from Y1 to Y2". Such simple sentences will gain credit in exams, as it shows a full understanding of the diagrams and what they represent. The theory is all correct, however as mentioned earlier they don't talk about long-term recessions. In my opinion, this question is prompting you to explore why government policies to resurrect the economy are often too slow. This could be done by discussing longevity of supply-side policies such as investment in education or training, or the response of the economy to fiscal policies.

Quality of writing

The essay has a clear structure, giving simple definitions of the terms in the question. I do have a query with the style at times, for example "In this essay, we will describe". This is unnecessary, and isn't a sophisticated style for GCSE level and beyond. You should be trying to move away from first person in formal pieces of writing. This essay shows tendencies of having a good style, for example "suppose there is" and "as a result of this". At times, the grammar is poor and it is awful to start the essay off with "Economy is fluctuated" as it doesn't make sense! This gives the wrong impression from the start, so a quick proof read is vital.


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Reviewed by groat 03/03/2012

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