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Short-Run vs Long-Run

National accounts

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Think about Canadian GDP over last 50 years Here it is

If you had to draw it now without looking at it, what would you draw? Upward Random ups and downs Bigger ups and downs you’d notice if know more

about economic history Actual GDP Potential GDP

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Actual GDP Reported by Statistics Canada

Potential GDP “theoretical” construct But shows a very “real” thing

The trend Or LONG-RUN development

How would you determine potential GDP? That’s what we would have if we…

fully utilized… all the factors of production… with the best technology

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GDP accounting GDP = GDP GDP = (F/F) × (FE/FE) × GDP GDP = F × (FE/F) × (GDP/FE) Compare this to English in previous slide:

That’s what we would have if we… fully utilized… all the factors of production… with the best technology

GDP = F × (FE/F) × (GDP/FE)

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We have here: GDP = F × (FE/F) × (GDP/FE) F = factor supply (FE/F) = factor utilization rate (GDP/FE) = factor productivity

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How these change: GDP = F × (FE/F) × (GDP/FE) F = factor supply

Slow relatively small change in short run Significant change in long run Look at labour

population LFPR

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(GDP/FE) = factor productivity Slow relatively small change in short run Significant change in long run Look at labour

productivity

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(FE/F) = factor utilization rate Quick change in short run Small/no change in long run

it’s like temperature and same problems of predicting Look at labour

unemployment

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Not hard to sum up? GDP = F × (FE/F) × (GDP/FE) will change if any part

of it changes Short run:

F = factor supply - LITTLE CHANGE (FE/F) = factor utilization rate – SIGNIFICANT CHANGE (GDP/FE) = factor productivity - LITTLE CHANGE

Long run: F = factor supply - SIGNIFICANT CHANGE (FE/F) = factor utilization rate - LITTLE CHANGE (GDP/FE) = factor productivity - SIGNIFICANT CHANGE

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But think about it: F = factor supply - determines AS (position of the curve) (GDP/FE) = factor productivity - determines AS (position

of the curve) (FE/F) = factor utilization rate - determines what point we

are at AS Think AD-AS model:

AS is a curve A point we are at on AS is determined by position of AD curve

We say that short run fluctuations are demand-driven We say that long run fluctuations are supply-driven

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What does it mean for policies? A policy that affects AD is targeting short-run…

fluctuations business cycle unemployment factor utilization

A policy that affects AS is targeting long-run… economic growth

Most policies have both short-run and long-run effects Think lowering interest rate, e.g.