 labour market equilibrium. Dear students, today we will discuss the effect of a temporary adverse supply shock on the labour market. In last module, we discuss the equilibrium of labour market that how the equality of demand and supply will determine the equilibrium how instantly according to the assumption of the classical model, wages adjust quickly so market clear and then the output is determined. Today we will discuss if there is an adverse supply shock. Adverse supply shock means that because of this post-bad weather or oil prices increase or some other reason, your production function downward shifts so this is the thought of adverse supply shock. So, how will this impact the labour market and output? So, diagrammatically we will discuss this again. We will use two spaces. In the two spaces, we will discuss production function and labour market in the lower part. So, you are familiar with the shape of production function, positively sloped or decreasing rate. We have discussed this in detail. A naught is the effectiveness of the factor of production or technology. We call it K naught is the stock of capital naught. As a subscript put case, we use these things as constant. Technology is constant along this curve and capital stock is constant. We are not using any subscript with n. We are taking n on x axis. So, by varying n, the output will change. It will change according to this curve. So, this curve is through positively sloped or this slope gradually comes. Margin project of labour is positive and diminishing up. You are familiar with the thing. So, this is the production function and we have discussed that production function is determined by labour demand curve. Margin product of labour actually the slope of the production function is given by margin product of labour and margin product of labour demand curve. So, this is negatively sloped labour demand curve. And labour supply, we have discussed positively. Usually, it is positively sloped labour supply curve. So, the intersection of labour demand and labour supply, this is determining the employment level and naught and market clearing wage w naught and n naught is determining the output level. So, this is the equilibrium level of employment. So, this is the full employment level. So, this is the full employment level. So, this is the full employment level of output. If there is now an adverse supply shock, what will happen? This adverse supply shock will shift this production function downward. And we have also discussed that when it shifts downward, it will reduce your margin product of labour. So, margin product of labour will reduce labour. So, when it shifts downward, we will see that labour demand curve will shift downward. But, there will be no effect on supply because we are saying that this adverse supply shock is of temporary nature. If it is of permanent nature, it will affect your wealth and future expectations and labour supply. But, since we are assuming that it is temporary nature, so labour supply curve will not be affected. So, labour demand curve will shift downward. Now, this will be the new equilibrium point where this new labour demand or labour supply intersects. So, n 1 is now the new level of employment. Again, this is again full employment level of output because all the people who want to work on this wage are getting all the work. So, this W 1 is now the new wage. That is why this adverse supply shock allows real wage to reduce and employment levels to reduce. So, the real wage is W naught to W 1. And employment levels are shown on left ward arrow and employment levels are shown on the left ward arrow. And this employment level is given in the production function and this employment a production function, this is the new one. Here we have A naught and now we have a change, we have a new value of A and A1 is less than A naught, adverse supply shock, A1 is less than A naught, A downward shift. Now, what is the output on N1? Y1. So, what happened? Because of this adverse supply shock, the employment level has been reduced, real wage will be reduced and output will be reduced. The output has been reduced in two ways. One is due to the downward shift of production function and the other is due to the employment level. We can discuss that because of this adverse supply shock, the production function has been downward shifted and because of the downward shift, your level of employment has been reduced. So, this is the you can say it is the direct effect of this adverse supply shock and what is indirect? The direct effect is that due to the downward shift, the margin product of labor has also been reduced and due to the labor demand of the margin product of labor, the downward shift has been reduced and the employment level has been reduced. So, there are two things, you did not understand that because of this adverse supply shock, the employment level has been reduced and on this new employment level, your production will also be reduced. So, there is a direct effect that the output is being reduced on any given level of employment and the indirect effect is that your employment level is also being reduced indirectly. So, both are reducing your total output. So, what is the net effect? The adverse supply shock will reduce the labor demand curve, employment level will be reduced, real wage will be reduced and fall employment level of output will be reduced. Thank you.