What is potential output?

Potential Output

In economics, potential output (also referred to as "natural gross domestic product") refers to the highest level of real Gross Domestic Product output that can be sustained over the long term. The existence of a limit is due to natural and institutional constraints. If actual GDP rises and stays above potential output, then (in the absence of wage and price controls) inflation tends to increase as demand for factors of production exceeds supply. This is because of the limited supply of workers and their time, capital equipment, and natural resources, along with the limits of our technology and our management skills. Graphically, the expansion of output beyond the natural limit can be seen as a shift of production volume above the optimum quantity on the average cost curve. Likewise, if GDP is below natural GDP, inflation will decelerate as suppliers lower prices to fill their excess production capacity.

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Some articles on potential output:

General Equilibrium Theory - Other Schools - New Classical Macroeconomics
... its unique equilibrium, with full employment and potential output, and that this equilibrium is assumed to always have been achieved via price and wage adjustment (market clearing) ... is not due to the failure of the market to achieve potential output, but due to equilibrium potential output having fallen and equilibrium unemployment having risen ...
Inflation - Causes - Keynesian View
... also called "supply shock inflation," is caused by a drop in aggregate supply (potential output) ... whenever aggregate demand is increased beyond the ability of the economy to produce (its potential output) ... Another concept of note is the potential output (sometimes called the "natural gross domestic product"), a level of GDP, where the economy is at its optimal level of production ...
Potential Output
... In economics, potential output (also referred to as "natural gross domestic product") refers to the highest level of real Gross Domestic Product output that can be sustained over the long term ... If actual GDP rises and stays above potential output, then (in the absence of wage and price controls) inflation tends to increase as demand for factors of production exceeds supply ... Graphically, the expansion of output beyond the natural limit can be seen as a shift of production volume above the optimum quantity on the average cost curve ...

Famous quotes containing the words output and/or potential:

    Lizzie Borden took an axe
    And gave her mother forty whacks;
    When she saw what she had done,
    She gave her father forty-one.
    —Anonymous. Late 19th century ballad.

    The quatrain refers to the famous case of Lizzie Borden, tried for the murder of her father and stepmother on Aug. 4, 1892, in Fall River, Massachusetts. Though she was found innocent, there were many who contested the verdict, occasioning a prodigious output of articles and books, including, most recently, Frank Spiering’s Lizzie (1985)

    Silence is as full of potential wisdom and wit as the unhewn marble of great sculpture. The silent bear no witness against themselves.
    Aldous Huxley (1894–1963)