7- Aggregate Supply

Question 1

Aggregate supply definition

Answer 1

Measure the volume of goods and services produced each year and represents the ability of an economy to deliver goods and services to meet demand.

Question 2

Short run aggregate supply demand

Answer 2

SRAS shows total planned output when prices can change but the prices and productivity of factor inputs e.g. wage rates and the state of technology remain constant.

Question 3

Short run defintion

Answer 3

Short run is a period of time when at least factor of production is fixed.

Question 4

Short run aggregate supply curve?

Answer 4

Positive relationship between general price level and real national output. Upwards sloping like microeconomic supply curve.

Question 5

Movements/changes in SRAS in terms of price level?

Answer 5

• A rise in the price level causes an expansion in SRAS
• A fall in the price level causes a contraction in SRAS
• A rightward shift in AD there is an expansion of SRAS and if AD falls (shifts left) there is a contraction of SRAS.

Question 6

Why is SRAS curve upward sloping?

Answer 6

The short run AS curve is upward sloping because higher prices for goods and services make output more profitable and enable businesses to expand their production by hiring less productive labour and other resources.

Question 7

Main causes of shifts in SRAS?

Answer 7

CHANGES IN BUSINESS COSTS

• Changes in unit labour costs
• Changes in other production costs
• Commodity prices
• Exchange rates
• Government taxation and subsidies
• Price of imports

Question 8

Long term aggregate supply definition

Answer 8

LRAS shows total planned output when both prices and average wage rates can change- it’s a measure of a country’s potential output and the concept is linked to production possibility frontier (PPF)

Question 9

Components of classical LRAS curve?

Answer 9

• Markets always revert to the equilibrium
• Long run
• Always produces at full employment level
• Like PPF
• Vertical line down

Question 10

Components of Keynesian LRAS curve?

Answer 10

• No SRAS/ LRAS distinction

- Economy can produce at

Question 11

Long run definition

Answer 11

A period in time where all factors of production are variable.

Question 12

What does right shift of LRAS curve show?

Answer 12

Increase in LRAS

Question 13

What does left shift of LRAS curve show?

Answer 13

Decrease in LRAS

Question 14

Key factors affecting LRAS?

Answer 14

• Higher productivity of labour and capital- a rise in output per person employed or increased efficiency or technology
• Increased labour market participation:
• A growing labour supply and a rise in the number of people in paid work
• Gains from innovation and enterprise- determine competitiveness in international markets
• Capital investment- capital spending by businesses, inward investment from overseas (FDI) and the Public sector (government)
• Q^2 CELL

Question 15

What is the main driver of SRAS in economy?

Answer 15

Production costs influenced by government policy

Question 16

Some causes of fall in AS?

Answer 16

• Brain drain- an outward migration of workers
• Collapse in business capital investment spending
• Higher production costs
• Effects of a major disaster/shock

Question 17

Possible macro consequences of a fall in AS?

Answer 17

• May cause higher inflation
• May reduce real GDP/ national output
• May reduce total employment
• May increase Balance of Payment current deficit

Question 18

Explaining shape of Keynesian LRAS curve?

Answer 18

• Original gradual increase in output with there being lots of spare capacity after a recession.
• Output can increase without a rise in general price level as SRAS is hugely elastic
• Gradually with output increasing so will the GPL due to inflationary pressures as AS is inelastic i.e. output is close to full capacity levels).
• When the LRAS curve becomes vertical, the economy has reached full employment of factor resources.

Question 19

Full employment definition

Answer 19

A state of the labour market in which everyone who is willing and able to work at the current wage rate is in employment excluding those who are frictionally unemployed.

Question 20

What would the reason be for an economy not operating at full employment?

Answer 20

Negative output gap

Question 21

Explaining elasticity of AS curve?

Answer 21

• When spare capacity is high the SRAS will be elastic. Therefore a rise in AD can be met easily by increased output. There’s little threat of rising prices (inflation).
• The elasticity of SRAS falls as output increases:
  The amount of spare capacity declines. So possibility of diminishing returns in production. Bottlenecks in supply of inputs and components. Resource shortages as the economy approaches full employment e.g. skilled labour becomes more scarce
• When SRAS become perfectly elastic the economy is at full capacity (equivalent to a PPF boundary). Further increases of AD at this point are purely inflationary in short run with little extra real output.