Download Aggregate Supply

Aggregate Supply (AS)
I.
Introduction to Aggregate Supply
a. Aggregate supply is a schedule of the quantity of
output that an economy will supply at various price
levels. Can be measured in Short-Run or Long-Run.
i. The relationship between the average price
level of all domestic output & the level of
domestic output produced.
b. Production Capacity: The max value of goods an
economy is capable of producing given the available
resources
c. Full Capacity: Max value of Real GDP representing
the most production possible in the economy.
i. Max level of Real GDP is max level of
production;
ii. Because AS is measured as a level of Real GDP,
constant dollars measure the value of total
production (inflation is accounted for)
II. Short-Run Aggregate Supply
a. The price of goods has changed, but the input prices
have not adjusted to product market changes.
i. In other words, the economy is not producing at
potential. There is some cyclical unemployment.
b. Short-Run AS Graph (SRAS)
 RGDPu – Unemployed/underemployed resources.
Increase in production causes little change in
price level.
o Producers want to supply less at lower
prices
 RGDPf – More resources being used & are
becoming difficult to find causing the price of
inputs to increase
 RGDPc – At capacity, underemployed &
unemployed resources cannot be found, causing
the price of inputs to increase. Small change in
production causes big change in price level.
o Producers want to supply more at higher
prices
** The value of AS only increases if output increases.
Increased price levels = increased production.
** When price levels are up, the value of AS is up; when
price levels are down, the value of AS is down.
i. Movement along the SRAS occurs when there
is a change in the value of AS caused by a
change in price level.
1. Moving along the curve…
ii. Shifting the SRAS occurs when firms change
production levels, caused by…
1. Input Prices: If inputs increase, less is
supplied. If input decrease, more is
supplied.
2. Taxes: If supply-side taxes increase,
production decreases. If supply-side
taxes decrease, production increases.
3. Deregulation: If regulations increase,
production decreases & visa-versa.
4. Political & Environment Phenomena:
Large nations will see a decrease in SRAS
without permanent decreases in
employment.
a. If the disaster is EPIC, then small
& large nations may see a
permanent decrease in the ability
to produce!
III. Long Run Aggregate Supply (LRAS)
a. Input prices have adjusted to market forces – all
product & input markets are in equilibrium & full
employment (no cyclical unemployment)
b. LRAS Graph
c. Shifting LRAS
i. Availability of Resources: A large labor force,
large stock of capital, or more natural
resources can increase the level of full
employment.
ii. Technology & Productivity: Increased
technology increases productivity of capital &
labor.
1. Increases LRAS over time!!
iii. Policy Incentives: If gov’t. policy provides
incentives, GDPf rises
1. Incentives to find a job, tax incentives to
invest in capital or technology
IV. Macroeconomic Equilibrium
a. Quantity of real output demanded is equal to the
quantity of real output supplied.
b. Graphing Macroeconomic Equilibrium
c. Recessionary Gap: Occurs when the economy is
operating below Qf & experiencing high unemployment
i. When equilibrium is below Qf…
d. Inflationary Gap: Occurs when the economy is
operating above GDPf. Production is higher than
GDPf, rising price levels are the main concern
i. When equilibrium is above Qf…
e.
Supply Shocks: Usually caused by an epic event
that would impact several industries…
i.
Negative Shocks: The economy faces
increased unemployment & increase in prices
i. Stagflation: High unemployment & high
inflation rates
ii. Positive Shocks: Higher productivity & lower
input prices
** Increased AS causes an increase in Real GDP, an
decrease in unemployment & lower price levels.
** Decreases AS causes a decrease in Real GDP, an
increase in unemployment & higher price levels.
V.
Keynesian Economics v. Classical Economics & the
AS Curve
a.Keynesian School of Thought: Believes that the
economy often resembles the recessionary situation.
i. The flat horizontal section of the SRAS Curve.
b. Classical School of Thought: Believes the
economy will always gravitate toward full
employment
i. The vertical portion of the SRAS or the LRAS