Answer to Question #158059 in Macroeconomics for Umair

Question

Due to COVID-19 situations the oil prices fall in international market. Let’s assume that output starts at its natural level.

a.     What happens to the Pakistan’s economy (output and price) in the short run? Explain your answer using AS-AD graphs. (2.5 Marks, Maximum 150 words)

What happens to Pakistan’s economy (output and price) in the long run? Explain your     answers using graphs.

Answer 1

Pakistan's economy is energy dependent on Middle Eastern countries for oil. Consequently, the decline in the oil price will have a positive impact on the economic situation in Pakistan.

a)

If the oil price decreases, the total supply increases, then the AS curve moves to the AS1 position: the equilibrium real GDP increases (from Qe to Qe1), moreover, the potential level of real GDP increases, that is, there is economic growth. At the same time, the price level decreases.

In the long run, the potential output (Y*) increases, i.e. the production capacity of the economy, prices remain at the same level