What causes real GDP to rise above potential GDP? How is it possible?
1. You can’t spend more than your income in the long haul, but in the short term, you can borrow and so do so. The same with the economy – having people work over-time, using up reserves, etc. can cause real GDP to rise above potential GDP for short periods. (A simple example is cutting trees faster than they can be replenished, over-fishing this year at the expense of next year’s catch, etc.) 2. Many, but not all, economists define “potential GDP” and “full employment” to mean when the unemployment is at the “Non-Accelerating Inflation Rate of Unemployment” http://en.wikipedia.org/wiki/NAIRU This is still typically 5% unemployment. By hiring these unemployed, the country can increase its GDP above the “full employment” level. The argument is that this is not sustainable because it causes ever-growing inflation.
