Understanding Aggregage Supply Flashcards
What does aggregate supply measure
The volume of goods and services produced each year
What is short run aggregate supply
It shows the total planned output when prices can change but the prices and productivity of factor inputs are help constant
What is long run aggregate supply
It shows the total planned output when both prices and average wage rates can change - it is a measure of a country’s potential output and the concept is linked to the PPF
LRAS curve
Vertical (does not change when the general price level changes)
SRAS curve
Assumed to be upward sloping (it is responsive to a change in AD reflected in a change in the general price level)
What is the main cause of a shift in AS
Change in business costs
What can cause a change in business costs
- changes in unit labour costs
- changes in other production costs
- commodity prices
- exchange rates
- tax and subsidies
- price of imports
- short run shocks to production
How do exchange rates create a change in business costs
Exchange rate causes fluctuations in the prices of imported products. Depreciation (fall) in the XR increased the costs of importing raw materials and component supplies from overseas.
Why is the exchange rate important for the U.K.
A large percentage of out components / raw materials / energy are imported
External factors affecting aggregate supply
- world oil and gas prices
- energy prices / costs
- other mineral / metal prices
- foodstuff prices
- import tariffs / quotas
Benefits of falling oil prices
- cheaper for transport
- decline in value of oil exports and cheaper imports
- possible fall in exploration and extraction in the North Sea
- renewable energy may be less economically viable
- brings down inflation - possible deflation
- UK is an oil exporter so the UK XR may fall
What happens in the long run
The ability of an economy to produce goods and services and to meet demand is based on the state of production technology and the availability and quality of factor inputs
What is trend growth in
The estimated rate of growth of a nation’s productive potential
What are the key factors that affect LRAS
- productivity and labour capital
- labour market participation
- innovation and enterprise
- capital investment
What does productivity measure
The efficiency of the production process
What is productivity in the long run
A major determinant of economic growth and of inflation
What does a fall in labour productivity lead to
A rise in firm’s (unit) costs of production (assuming that the level of wages remains the same)
Why does the UK economy lag on productivity
- low rate of capital investment
- banking crisis
- slowing rates of inflation
- persistent skills shortages in key industries
- relatively low levels of market competition
- low AD and high spare capacity
How does an improvement in labour productivity have an impact on inflation (macro objectives)
Lower inflation - unit costs will be falling
How does an improvement in labour productivity have an impact on economic growth (macro objectives)
Higher economic growth - gains in AS
How does an improvement in labour productivity have an impact on unemployment (macro objectives)
Lower in LR as growth rises
How does an improvement in labour productivity have an impact on balance of taxes are in goods and services (macro objectives)
Improved - more competitive exports
How does an improvement in labour productivity have an impact on spare capacity in the economy (macro objectives)
Rise from extra capacity in SR
How does an improvement in labour productivity have an impact on business investment (macro objectives)
Higher - profits will have increased
How does an improvement in labour productivity have an impact on government fiscal balance (macro objectives)
Productivity gains in government will help to reduce state spending
Why is the AS curve non linear
- when spare capacity is high then SRAS will be elastic
- rise in AD can be met easily by increased output
- the elasticity of SRAS curve falls as output increases
- when SRAS becomes perfectly inelastic the economy is at full capacity
