2.3 Aggregate Supply

• Aggregate Supply

  Total planned output of goods and services in an economy at a given time and price level.
• Aggregate Supply Shock


  An inflation shock or a shock to potential national output reduces real output and can increase the rate of inflation.
• Costs of Production

  Factor prices, including rent, wages and interest.
• Classical LRAS


  LRAS is inelastic. Real GDP is determined by supply-side factors. A long-term, increase in AD (faster than growth in LRAS), will just cause inflation and will not increase real GDP.
• Competition Policy


  Any policy which seeks to promote competition & efficiency in markets and industries.
• Demographic Change


  Any change in the population eg. age, dependency ratios, life expectancy, family structures, birth rates etc.
• Innovation


  The commercial development of exploiting new or improved goods and services.
• Invention


  The creation of a new product, service or concept.
• Keynesian LRAS


  Assumes wages and prices are fixed until near YFE is reached. There is spare capacity, LRAS is perfectly elastic, the price level starts to rise near YFE. At YFE it is vertical as no further output can be produced.
• Keynesian Unemployment


  Unemployment caused by a lack of AD in the economy –a deficiency of private sector spending causes both output and employment to contract.
• Productivity


  Efficiency measured by output per worker
• Factors Affecting SRAS


  -Tax

  -Exchange rates

  -Cost of raw materials

  -Cost of labour
• Draw a negative output gap on a classical LRAS curve

  Have you labelled Yfe, price level and real GDP? Have you shifted either AD or SRAS? Have you labelled the output gap? What does it mean to have a negative output gap?
• Factors influencing LRAS


  • Technological advances
  • Changes in relative productivity
  • Changes in education and skills
  • Changes in government regulation
  • Demographic changes and migration
  • Competition policy
• Sticky Wages

  Wages adjust slowly to changes in labour market conditions this may be because:

  • unions are preventing wages from falling
  • firms are unwilling to demotivate workers by lowering wages
  • workers will not accept lower wages
• Technological Advances

  This improves productivity and efficiency so more can be produced with fewer resources thus LRAS shifts outwards
• Changes in Relative Productivity

  Efficiency, skilled labour and technology determine how productive an economy is compared to another thus they have a comparative advantage and may invest more in that good so can supply more
• Education and Skills


  A more skilled workforce is more efficient and more occupational mobility as skills gaps can be filled easily through training schemes thus productivity and output increase
• Government Regulation


  Governments can influence the size of the labour force by reducing benefits, offering free childcare or increasing the state pension age. They can also offer subsidies and tax breaks to firms investing in R&D or lower taxes and regulations to reduce bureaucracy and boost output.
• Demographic Changes and Migration

  Immigration increases the labour supply and as many immigrants are young it is beneficial to economies with an ageing population so LRAS is higher
• Competition Policy


  Promoting competition forces them to improve the quality of their goods or lower prices so to remain profitable they must improve efficiency and lower costs thus they can increase output. However, less competition may encourage investment and innovation as higher profits motivate them.