Question

1. Define the natural rate of unemployment in terms of wage-setting and price-setting relations. Write the equation that expresses the natural rate of unemployment in terms of these relations. Using an appropriate diagram, explain the effect of a decrease in unemployment benefits on the natural rate of unemployment.
   

2. a) What is the shape of the aggregate supply (AS) curve if:
   1. Nominal wages and prices are flexible and competitively determined?
      
   2. Nominal wages are downwardly rigid?

b) What is the importance of the slope of the AS curve from the standpoint of
stabilization policy?

Answer 1

Aggregate supply curves are of two types:
1. Long run supply curve
2. Short run supply curve

In the traditional aggregate supply and demand model, the distinction between long run supply curve and short run supply curve for are related to stickness in the nominal wage rate.

Nominal wages are fixed in Short run aggregate supply. (SAS)
Nominal wages are flexible in long run aggregate supply. (LAS)

LAS Curve is the aggregate supply curve that would be related if the economy is operating on its longer run that is full employment path of the economy operates along the desired output of the business sector will depend on K , A and Population. It doesn't depends on P.

Consequently, if we graph LAS with Y on the horizontal axis and P on the vertical axis (perfectly inelastic) at the full employment output level.
IT WILL SHIFT TO THE RIGHT if K or A increases.

*The LSA curve is vertical ,due to  independent of the price level of potential gdp .*
(a)
(II)
John Maynard Keynes argued that nominal wages display downward rigidity when labour workers are not willing to accept cuts in nominal wages.
when there is a decrease  in the nominal wage rate it ,eans that  the aggregate supply curve has tendency to shift outwards ,which is indicating  that the quantity supplied at any price leve isl increasing.
: b)
Slope of AS curve is important .In AS curve, increase in one variable results into increase in other variable , depicting direct relationship between two variables.
This criteria is important in stabilization policy for stablising the economy by adopting different economic policies and regulate trade cycles.