Study Notes
2.3.1 Characteristics of Aggregate Supply (AS)
- Level:
- A-Level
- Board:
- Edexcel
Last updated 9 Jul 2024
This study note for Edexcel covers characteristics ofAggregate Supply
1. The AS Curve
- Definition: The Aggregate Supply (AS) curve represents the total quantity of goods and services that producers in an economy are willing and able to supply at different price levels, ceteris paribus.
- Shape:
- In the short run (SRAS), the AS curve is upward sloping because:
- Prices of inputs (like wages) are sticky and do not adjust immediately to changes in the price level.
- Higher prices can temporarily increase profit margins, leading firms to increase production.
- In the long run (LRAS), the AS curve is vertical at the full-employment level of output (potential GDP) because:
- In the long run, all prices, including wages, are flexible.
- Output is determined by factors such as technology, resources, and institutions, not by the price level.
- In the short run (SRAS), the AS curve is upward sloping because:
2. Movement Along vs. Shift of the AS Curve
- Movement Along the AS Curve:
- Caused by a change in the price level.
- Example: If the price level rises, we move up along the SRAS curve, indicating an increase in the quantity of goods and services supplied.
- Real-World Example: During a demand-pull inflation scenario, higher demand raises the price level, and firms respond by increasing production, moving up the SRAS curve.
- Shift of the AS Curve:
- Caused by changes in non-price level factors affecting supply.
- SRAS Shifts:
- Rightward Shift: Indicates an increase in aggregate supply. Causes include reductions in production costs, technological advancements, or improvements in productivity.
- Leftward Shift: Indicates a decrease in aggregate supply. Causes include increases in production costs, supply shocks (e.g., natural disasters), or reduced productivity.
- LRAS Shifts:
- Rightward Shift: Reflects long-term economic growth, such as increased capital stock, technological progress, or an increase in the labor force.
- Leftward Shift: Reflects a decrease in an economy's productive capacity, such as due to destruction of capital or a decrease in the labor force.
- Real-World Example: The COVID-19 pandemic caused a leftward shift in SRAS due to disrupted supply chains and labor market constraints.
3. Relationship Between Short-Run AS and Long-Run AS
- Short-Run AS (SRAS):
- Prices of some inputs (like wages) are sticky and do not adjust immediately.
- Firms respond to higher prices by increasing output since they have higher profit margins.
- SRAS can be influenced by temporary factors like changes in production costs or expectations.
- Long-Run AS (LRAS):
- All input prices are flexible, and the economy is at full employment.
- Reflects the economy's maximum sustainable output, given its resources and technology.
- Determined by factors like labor force size, capital stock, and technological innovation.
- Connection:
- In the short run, deviations from full employment can occur, causing the SRAS to shift.
- In the long run, the economy adjusts to its potential output level, reflected by a vertical LRAS curve.
Key Economists and Contributions
- John Maynard Keynes:
- Emphasized the role of aggregate demand in influencing economic output and employment.
- Introduced the concept of price stickiness, which underpins the upward slope of the SRAS curve.
- Milton Friedman:
- Highlighted the importance of expectations in the adjustment of prices and wages.
- His work on the natural rate of unemployment influences the understanding of the LRAS curve.
- Robert Lucas:
- Developed the theory of rational expectations, impacting how shifts in AS are perceived.
- Emphasized the importance of policy credibility and expectations in economic outcomes.
Glossary
- Aggregate Supply (AS): The total quantity of goods and services that producers in an economy are willing and able to supply at different price levels.
- SRAS Curve: Short-Run Aggregate Supply curve; shows the relationship between the price level and the quantity of goods and services supplied in the short run.
- LRAS Curve: Long-Run Aggregate Supply curve; represents the economy's potential output at full employment, unaffected by the price level.
- Price Stickiness: The resistance of prices, especially wages, to change quickly despite changes in demand or supply conditions.
- Supply Shock: An unexpected event that suddenly changes the supply of a good or service, leading to sudden price changes.
- Potential GDP: The level of output that an economy can produce at a constant inflation rate when utilizing all its resources efficiently.
Possible Essay-Style Questions
- Explain the factors that can cause a shift in the Short-Run Aggregate Supply curve. Provide real-world examples to support your explanation.
- Discuss the relationship between the Short-Run and Long-Run Aggregate Supply curves. How do economies transition from short-run to long-run equilibrium?
- Analyze the impact of technological advancements on the Aggregate Supply curves. What are the implications for long-term economic growth?
- Evaluate the effects of supply shocks on the aggregate economy. How should policymakers respond to negative supply shocks to stabilize the economy?
- Compare and contrast the views of Keynes and Friedman on the determinants of Aggregate Supply. How do their perspectives inform modern economic policy?
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