Figure 4.20b: Negative Supply Shock (Higher Markup) with Unchanged Aggregate Demand

Cost-Push Inflation from a Negative Supply Shock (e.g., Oil Price Rise)

Figure 4.24: Illustration of a Cost-Push Inflationary Spiral from an Oil Shock

Analyzing an Economic Shock

Consider an economy in equilibrium where a sudden, negative supply shock occurs, such as a significant increase in the price of imported oil. If aggregate demand policies hold the level of employment constant in the immediate aftermath, what is the direct consequence for the wage-setting (WS) and price-setting (PS) curves and the resulting bargaining gap?

Analyzing the Emergence of a Bargaining Gap

Following a negative supply shock that causes the price-setting curve to shift downward, a positive bargaining gap emerges at the initial level of employment only if the wage-setting curve simultaneously shifts upward.

An economy is initially in a stable equilibrium. A new government policy is enacted that significantly reduces competition from foreign firms. Assuming aggregate demand remains unchanged, arrange the following events in the correct chronological order to show the immediate impact on the labor market.

An economy experiences a negative supply shock due to new government policies that reduce market competition. Assuming aggregate demand holds the employment level constant in the short run, match each economic concept to its correct description in this context.

Evaluating Policy Responses to a Supply Shock

Consider an economy initially at its supply-side equilibrium. A government enacts new protectionist policies, which reduces competition and allows domestic firms to increase their profit markups. In the immediate aftermath, monetary and fiscal policies hold the overall level of employment constant. Which statement provides the most accurate analysis of the labor market at this point?

Consider an economy where a negative supply shock causes the price-setting curve to shift downward. In this scenario, the new long-run equilibrium for the economy will involve a higher level of employment than before the shock.

When an economy-wide shock reduces the real wage that firms can profitably offer, but the level of employment remains unchanged, the resulting difference between the wage workers demand and the wage firms offer is known as a positive ____ ____.

Protectionist Policies as an Inflationary Supply Shock

Figure 4.20a: A Negative Supply Shock Opening a Bargaining Gap