Question

How is Unemployment affected by a shift in AD and AS? Specifically when there is an interruption in the supply of oil. I need a good explanation so I understand it and I need to demonstrate this within a graph.

Answer 1

If there is an increase in the aggregate demand, the aggregate demand curve shifts to the right. This increases the price level and the real GDP in the economy. Because this is seen as an increase in the quantity of goods and services demanded by different groups in the economy, and that the aggregate supply curve is upward sloping, an increase in the price level encourages producers to produce more. To achieve this aim, they will hire more labor and this indicates that the employment will increase and unemployment rate will reduce. In a similar manner whenever there is a decrease in the demand there will be a reduction in the price level as well as the real GDP, which will result in decreasing employment and increasing unemployment rate.

Now when there is an increase in the price of oil, the cost of production of most of the industries increases because oil is used as a major input, especially in energy sector where oil is used as fuel. Because there is an increase in the cost of production and the resources are same, this reduces the aggregate production and therefore the aggregate supply curve shifts to the left. When there is a decrease in the price of oil, the cost of production declines and aggregate supply curve shifts to the right. Below is an example of oil price shock and its effect in the economy in the short and long run.