February 21, 2017

Aggregate Supply

What is Aggregate Supply?

• It is the level of Real GDP (GDPr) that firms will produce at each price level (PL) 

What is Long Run Aggregate Supply?

• It is the period of time where input prices are completely flexible & adjust to changes in price-level
• In the long run, the price-level of Real GDP supplied is independent of the price-level.

What is Short Run Aggregate Supply?

• It is the period of time where input prices are sticky & do not adjust to changes in the price level.
•  In the short run, the level of Real GDP supplied is directly related to the price level

What does Long Run Aggregate Supply look like?

• In the long run aggregate supply or LRAS marks the level of full employment in the economy.

What does Short Run Aggregate Supply look like?

• Because input prices are sticky in the short run the SRAS is upward sloping. 

Changes in Short Run Aggregate Demand?

• An increase in short aggregate supply is seen as a shift to the right . ( SRAS ←) 
• An decrease in short aggregate supply is seen as a shift to the left. ( SRAS →)
• KEY TO UNDERSTANDING SHIFTS IN SRAS IS PER UNIT COST OF PRODUCTION. 
• PER UNIT PRODUCTION COST = Total Input / Total Output 

What are the determinants of SRAS?

• Input Prices 
• Productivity 
• Legal- Institutional Environment 

What are Input Prices?

• Domestic Resources Prices
•  Wages ( 75% of all business costs) 
• Cost of capital 
• Raw Material ( Commodity Prices ) 
• Foreign Resources Prices
• Strong $ = Lower foreign resources prices
• Weak $ = Higher foreign resources prices 
• Market Power 
• Monopolies & cartels that control resources control the price of those resources.
• Increase in Resources = SRAS 
• Decrease in Resources = SRAS 

What is productivity?

• Productivity = Total Output / Total Input 
• More productivity = Lower unit production cost = SRAS →
• Lower productivity = Higher unit production cost = SRAS ←

What is Legal-Institution Environment?

• Taxes & Subsidies 
• Taxes ( $ to government ) on business increase per unit production cost = SRAS ←
• Subsidies ( $ from government ) to business reduce per unit production cost = SRAS →
• Government Regulation 
• Government regulation creates a cost of compliance = SRAS ←
• Deregulation reduces compliance cost = SRAS →