Worth: Mankiw Economics 5e 350 PART IV Business Cycle Theory: The Economy in the Short Run The final assumption of the sticky-wage model is that employment is deter- by the qu labor that firms demand. In other words, the bargain between the workers and the firms does not determine the level of employment in advance; instead, the workers ag sNe describe the firms' hiring decisions by the gree to provide as much labor as the firms wish to buy at the predetermined wage. We L=Ld(W/P), hich states that the lower the real wage, the more labor firms hire. The labor demand curve is shown in panel(a)of Figure 13-1. Output is determined by the Y=F(L, which states that the more labor is hired, the more output is produced. This is shown in panel(b)of Figure 13-1 Panel (c)of Figure 13-1 shows the resulting aggregate supply curve. Be ause the nominal wage is sticky, an unexpected change in the price level (a) Labor Demand (b)Production Function Real wage Income, output, Y W/P Y2 2 Labor. L Labor. L 3.. which raises (c) Aggregate Supply The Sticky-Wage Model Panel (a) Price level. P shows the labor demand curve. Because Y=Y+ a(P-Pe) the nominal wage Wis stuck, an in in the price level from P, to P2 reduces the real wage from W/P, to W/P2.The P2 6. The aggregate lower real wage raises the quantity of abor demanded from L1 to L2. Panel (b) shows the production function. An nese ch increase in the quantity of labor fror 1. An increase L, to L2 raises output from Y, to Y2 in the price Y,Income,output,Y Panel(c)shows the aggregate supply curve summarizing this relationship 5... and income between the price level and output.An increase in the price level from P, to P raises output from Y, to Y2 User JoENA: Job EFFo1429: 6264_ch13: Pg 350: 27757#/eps at 100sm Mon,Feb18,200212:56User JOEWA:Job EFF01429:6264_ch13:Pg 350:27757#/eps at 100% *27757* Mon, Feb 18, 2002 12:56 AM The final assumption of the sticky-wage model is that employment is deter￾mined by the quantity of labor that firms demand. In other words, the bargain between the workers and the firms does not determine the level of employment in advance; instead, the workers agree to provide as much labor as the firms wish to buy at the predetermined wage.We describe the firms’ hiring decisions by the labor demand function L = Ld (W/P), which states that the lower the real wage, the more labor firms hire.The labor demand curve is shown in panel (a) of Figure 13-1. Output is determined by the production function Y = F(L), which states that the more labor is hired, the more output is produced.This is shown in panel (b) of Figure 13-1. Panel (c) of Figure 13-1 shows the resulting aggregate supply curve. Be￾cause the nominal wage is sticky, an unexpected change in the price level 350 | PART IV Business Cycle Theory: The Economy in the Short Run figure 13-1 Real wage, W/P Income, output, Y Price level, P Income, output, Y Labor, L Labor, L W/P1 W/P2 L
Ld(W/P) L2 L1 Y2 Y1 Y
F(L) L2 L1 P2 P1 Y
Y a(P  Pe ) Y2 Y1 1. An increase in the price level . . . 3. . . .which raises employment, . . . 4. . . . output, . . . 5. . . . and income. 2. . . . reduces the real wage for a given nominal wage, . . . 6. The aggregate supply curve summarizes these changes. (a) Labor Demand (b) Production Function (c) Aggregate Supply The Sticky-Wage Model Panel (a) shows the labor demand curve. Because the nominal wage W is stuck, an increase in the price level from P1 to P2 reduces the real wage from W/P1 to W/P2. The lower real wage raises the quantity of labor demanded from L1 to L2. Panel (b) shows the production function. An increase in the quantity of labor from L1 to L2 raises output from Y1 to Y2. Panel (c) shows the aggregate supply curve summarizing this relationship between the price level and output. An increase in the price level from P1 to P2 raises output from Y1 to Y2.