Theme 2 - Aggregate Supply

Question 1

What is aggregate supply?

Answer 1

Is the total output of an economy at varying prices. It is the ability of an economy to produce goods and services in the short run.

Question 2

What is short run?

Answer 2

A period in time in which at least one factor of production is fixed in supply, so it is difficult for firms to increase their output.

Question 3

What is long run?

Answer 3

The period of time where all factors of production can be varied in quantity.

Question 4

What is short run aggregate supply curve?

Answer 4

• shows the total quantity supplied in an economy over a period of time depends upon the quantities of inputs of factors of production.
• ability of firms to increase supply is influenced by supply.
• it is difficult for firms to increase their output in the short run due to limited flexibility.
• SRAS measures what an economy can produce immediately, if it wishes to expand output it must use its factors of production more intensively.

Question 5

Cost related factors shifting the SRAS curve:

Answer 5

1) cost of inputs: if raw materials become more expensive then firms will decrease supply shifting the curve left. They influence the amount a firm is willing to produce.
2) exchange rate: firms often rely on importing raw materials. A strong currency could make imports cheaper, reducing firms costs and shifting the curve right.
3) government intervention: increased regulation could increase the costs of production, shifting the curve left.

Question 6

When will short run macroeconomic equilibrium occur?

Answer 6

Will occur at full employment level of output. It depends on magnitude, multiplier effect, duration and components.

Question 7

Classical economists LRAS

Answer 7

• believe in the long run markets are fully flexible and will always clear meaning the economy will always return to producing at its maximum potential level of output.
• the economy will always be at full employment - it is not possible to have an output in the long run.
• believe in the long run that the capacity can shift.
• in the long an economy will always be producing on their PPF.

Question 8

Keynesian LRAS

Answer 8

• markets are not fully flexible and do not clear, they believe that there can be spare capacity in the economy in the long run.
• it is possible for the economy to increase the level of output with no resulting increase in the price level.
• as spare capacity is used up, a rise in the real national output will cause the costs of factors of production to increase, so the price level begins to increase also. Eventually the economy will reach full employment where output cannot be increased. The long run supply is affected by a change in quantity of FOP’s or change in quality of FOP’s.
• always comment on the effect on real GDP, unemployment or average price level/inflation.