2.3 - Aggregate Supply

Question 1

What is aggregate supply?

Answer 1

The total planned output of goods and services in an economy over a period of time.

Question 2

Factors that affect SRAS

Answer 2

SR shifts are often called external shocks and cause SRAS to shift up or down indicating a change in capacity.

• changes in the costs of raw materials and energy: in costs are low supply increases
• changes in exchange rates: if euro falls compared to pound then UK costs fall so the SRAS will increase
• changes in tax rates: inc in indirect taxes increases production costs for almost all firms so SRAS decreases

Question 3

Classical and Keynesian LRAS

Answer 3

Classical: in the LR an economy will operate at full capacity and there wont be any unemployed resources in the economy. If there are any unemployed resources then the prices of these factors will fall until the surplus has disappeared.
Keynesian: the equilibrium level of output can occur below the full employment level of output. It’s in three sections, spare capacity, bottlenecks, and full capacity.

Question 4

Factors that affect LRAS

Answer 4

Labour market:

• changes in relative productivity: inc productivity means lower costs
• changes in education and skills: inc spending on education and training increases the value of the potential output
• demographic changes and migration: if the working age population increases then the will be a right shift
• health spending increases: workers are active for longer so right shift

Product market:

• technological advances: innovation and investment reduce costs for all firms, e.g. widespread access to the internet
• changes in govt regulation: if the regulations become less severe then the costs faces by all firms will decrease
• competition policy and reduction in barriers to international trade: as country opens up to more trade, competition drives down prices. As globalisation develops, AS increases.

Question 5

The relationship between SRAS and LRAS

Answer 5

Shifts in the SRAS curve occur because there is a change in costs of production, but overall productive capacity remains unchanged. SRAS changes may fees into long-term changes. LRAS is the productive potential of firms when all factors are variable. In the LR, the ability of an economy to produce goods and services to meet demand is based on the state of production technology, the country’s infrastructure and quantity and quality of factors of production.

Question 6

What is the short run?

Answer 6

Where at least one factor is fixed and firms cannot change their output unless all factors of production are variable.