2.3 Flashcards
What is aggregate supply ?
The total output of goods and services that producers in an economy are willing and able to supply at a given price level in a given time period
Why is it called the aggregate supply curve ?
Because it has the sum of all the industry supply curves in the economy
What does the AS curve show ?
It shows how much output firms wish to supply at each level of prices
What is the relationship between AS and the PL ?
It is positive
What does the AS curve assume ?
- The prices of factor inputs remains the same
- If costs of production change the curve will shift
Is the AS curve elastic ?
Yes it is elastic
What is SRAS ?
A period in which at least one factor of production is fixed
What does the SRAS curve show ?
It shows the relationship between real output and the average price level
What does the SRAS curve assume ?
It assumes that money wage rates are constant and fixed
What does a change in real output do the the AS curve ?
It will lead to a movement along the SRAS curve and there will be a change in the PL
What causes a shift in the SRAS curve ?
- Anything that is better for businesses will shift it downwards, to the right
- Anything that is negative for the business will shift it upwards, to the left
What effect does wage rate have on the short run AS curve ?
- An increase in wage rates will result in firms facing increased costs of production
- It will lead to a rise in the average price level
- Shift upwards of the curve
What effect does raw material price have on the SRAS curve ?
- A fall in the price of raw materials will lower industrial costs and will lead to some firms reducing the prices of their product
- There will be a shift downwards of the curve
What effect does taxation have on the SRAS curve ?
- An increase in the tax will increase costs
The supply curve will shift upwards
What effect does exchange rate have on the short run AS curve ?
- If the exchange rate falls, the price of imported goods is likely to rise. This will lead to an increase in prices throughout the economy.
- The supply curve will shift upwards
- If the exchange rate rises, the price of imported goods is likely to fall. This will lead to a decrease in prices throughout the economy.
- The supply curve will shift downwards
What effect does productivity have on the short run AS curve ?
- Increase in productivity overtime will lead to an increase in long run aggregate supply.
- However, it will also reduce costs of production in the short run
- This shifts the supply curve downwards
What is a supply side shock ?
It is when there is a large change in wage rates, material prices or taxation
What is LRAS ?
A period in which all factors of production are variable and technological change is possible
What does long run aggregate supply show ?
The LRAS curve shows how much real output can be produced with a given level of resources and technology
Why is the long run aggregate supply curve vertical ?
It can be argued that in the long run, the AS curve is fixed at a given level of real output, whatever the price level
What is the LRAS curve ?
It is the level of output shown by the long term average rate of growth in an economy
What is said to exist when output is above or below the long term trend ?
When output is above or below this long term trend level, an output gap is said to exist
What do fluctuations above or below the trend rate show ?
This shows that actual output can be above or below that given by the long-run aggregate supply curve
What is a positive output gap ?
- There is too much demand in the economy. Therefore they are overworking their factor resource. (e.g. workers work overtime and machines are used for longer).
- Actual GDP is more than the potential GDP.
What is a negative output gap ?
- The economy is not fully using its factor resource due to its large decline in demand in the economy.
- Actual GDP is less than the potential GDP
Why does the LRAS shift over time ?
- This is because the quantity and quality of economic resources changes over time, as does the way in which they are combined
- These bring about a change in the productive potential of the economy
What can affect the LRAS curve ?
Anything that can increase or decrease the productivity of a company to therefore increase or decrease supply
How do technological advances shift the LRAS curve ?
- Improvements in technology allow new products to be made or existing products to be produced with fewer resources
- Increases in capital productivity shift the LRAS curve to the right.
How do changes in relative productivity to competing economies shift the LRAS curve ?
- An increase in UK productivity of a good relative to other world economies will encourage production of that good in the UK
- Firms will therefore invest and the LRAS curve will shift to the right
How do changes in education and skills shift the LRAS curve ?
- Improvements in education and skills of workers will raise their productivity
- This increases long-run aggregate supply and the LRAS curve shifts to the right
How do changes in government regulations shift the LRAS curve ?
- They can lead to an increase in LRAS, shift LRAS curve to the right
- For example, making it simpler to set up a company could encourage more entrepreneurs to create companies, output and jobs
How do demographic changes and migration shift the LRAS curve ?
- Population changes that increase the size of the workforce are likely to increase LRAS and shift the curve right
- An ageing population where the number of people of working age is shrinking will reduce LRAS and shift the curve left
How does competition policy shift the LRAS curve ?
- Government policies which increase competition amongst firms is likely to increase LRAS and shift the curve right
- Competition is likely to force firms to be more productive and reduce their costs, or more innovative producing new products and new ways of producing goods and services
- However, less competition can sometimes be beneficial if it encourages investment and innovation
How does enterprise and risk taking shift the LRAS curve ?
Economies where enterprise and risk taking are encouraged are likely to see increases in their LRAS and shift the curve right
How does factor mobility shift the LRAS curve ?
- Increases in factor mobility are likely to increase LRAS and shift the curve to the right
- Workers coming into the UK is likely to increase the PPF
How do economic incentives shift the LRAS curve ?
- Improvements in economic incentives can increase LRAS and shift the curve to the right
- For example, giving tax incentives for the unemployed to take a job can reduce unemployment and increase output.
How does the institutional structure of the economy shift the LRAS curve ?
- The institutional structure of the economy determines how an economy works
- Making the system accord more with the rule of law is to increase LRAS and shift the curve to the right
- A stronger banking system can encourage households to save and make funds more available to firms, again increasing LRAS and shift the curve to the right
What is the vertical LRAS curve called ?
Classical LRAS curve
What is the classical LRAS curve based on ?
It is based on the classical view that markets tend to correct themselves fairly quickly when they are pushed into disequilibrium by some shock
What happens if all markets are in equilibrium ?
There can be no unemployed resources. Hence, the economy must be operating at full capacity on the production possibility frontier
What did keynesian economists point out ?
There have been times when the markets have failed to clear for long periods of time
