Posted in Finance, Accounting and Economics Terms, Total Reads: 576
Definition: Lucas Wedge
When the economy slowdown and real GDP (gross domestic product) decreases, then the visual representation of aggregate loss in the output of economy as a whole is termed as Lucas wedge. It is a visual representation of where the economy would be had there been no slowdown thus representing the cost to society. It represents the lost output due to slow growth rate arising from slow down in GDP. It represents the inefficiency in the market and the dead weight loss that cannot be avoided because of economic condition or government policy.
Lucas wedge is calculated by analyzing the difference between the figures of potential GDP and actual GDP. Say the economy was growing at 5% and the output was growing at 10%, but with the current economic condition output grew only by 5%so from an output of 100cr, the economy reached to 105cr instead of 110cr, a deadweight loss of 5cr. Even though it grow at 10% from the next year, it reaches 115.5cr instead of 1.1*1.1*100=121cr output production. So Lucas gap continues to exist and grow forever.