2.3 Aggregate Supply Flashcards
What is AS?
The volume of goods and services produced within the economy at a given price level
What is SRAS?
The relationship between planned national output and the general price level over a short time period
Draw SRAS Curve
Why is the AS curve upward sloping?
- If real output is increased firms will have to pay more for overtime or for faster delivery of raw materials.
- Higher prices for goods and services make output more profitable and enable businesses to expand production by hiring extra labour and other resources.
What causes an expansion of AS?
A rise in the price level
What causes a contraction of AS?
A fall in the price level
What causes shifts in SRAS?
- Changes in resource input prices
- Business taxes, subsidies, regulations and imported costs
- Supply shocks
Examples of changes in resource input prices
- Wage costs per unit of output
- Labour productivity
- Raw material prices
- Energy costs
Examples of Business taxes, subsidies, regulations and imported costs
- VAT, environmental changes / employment taxes
- Changes in the scale and size of government subsidies to certain industries
- Business rates + costs of meeting business regulations and other laws
- Cost of imported components (affected by the exchange rate and fluctuations in world commodity prices)
Examples of Supply shocks
- Natural disasters
- Political crisis (civil war)
Why would the SRAS curve shift inward?
- Might have been caused by a rise in raw material prices, energy costs, unit labour costs or perhaps an increase in the cost of meeting business regulations.
Why would the SRAS curve shift outward?
- Perhaps a decline in energy costs.
What does LRAS represent?
The long run potential level of output in the economy
What are the factors influencing LRAS?
- Higher productivity of Labour and Capital
- Increased labour Market Participation
- Gains from innovation and enterprise
- Capital investment
Shifts in LRAS may come from..
- Changes in labour supply available for production (i.e. more people joining the labour force)
- Changes in the stock of capital inputs - affected by the level of gross capital investment
- Changes in the efficiency of allocation of factor inputs e.g. shifting resources from rural to urban areas
- Improvements in the quality of factor inputs / productivity of inputs
- Advances in the state of technology
- Improvements in institutions such as the banking system
Draw a classical LRAS curve
Explain classical economists in terms of classical LRAS
- A group of economists who believed that the macroeconomy always adjusts rapidly to the full-employment level of output.
- The labour market and other markets for factors of production will adjust quickly.
- Workers will adjust their wage expectations and accept lower wages.
- There will no resulting unemployment.
- If the economy always converges rapidly on full-employment levels of output, no manipulation of aggregate demand can have any effect except on the price level
Draw a Keynesian LRAS graph
Explain Kenesian LRAS
- Where spare capacity is high then AS will be elastic
- As output increases the amount of spare capacity declines
- Possibility of diminishing returns in production
- Bottlenecks in supply of inputs and components
- Resource shortages as the economy approaches full employment e.g. Skilled labour becomes more scarce
- When AS becomes perfectly inelastic the economy is at full capacity (equivalent to being on the PPF boundary)
Explain non-inflationary growth in LRAS Kenesian
- An outward shift in AD from AD1 to AD2 can be met without an increase in the price level because short run aggregate supply is highly elastic
- INITIAL PART OF GRAPH before curve
Explain inflationary pressured growth in LRAS Kenesian
- An outward shift in AD from AD3 to AD4 causes a sharp rise in the general price level because AS is inelastic (i.e. output is close to fullcapacity levels)
