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What does long run aggregate supply reflect?
The economy's production potential
What is it assumed of the LRAS curve?
That it is vertical
What does a vertical curve suggest?
This view suggests that output is fixed at each level. All factors of production in the economy are fully employed in the long run.
Where is the LRAS curve located?
Located at the normal capacity level of output, which is the level of output at which the full production potential of the economy is being used.
LRAS curve on a diagram?
(PMT)
Changing AD, such as from AD1 to AD2, only makes a change in the price level (PL1 to PL2), and it will not change national output (real GDP)
What are some factors influencing LRAS?
- Technological advances
- Changes in relative productivity
- Changes in education and skills
- Changes in government regulations
- Demographic changes and migration
- Competition policy
How do technological advances influence LRAS?
If more money is spent on improving technology, the economy can produce goods in larger volumes or improve the quality of goods and service produced.
How do changes in relative productivity influence LRAS?
A more productive labour and capital input will produce a larger quantity of output with the same quantity of input
How do changes in education and skills influence LRAS?
This improves the quality of human capital, so it is more productive and more able to produce a wider variety of goods and services
How do changes in government regulations influence LRAS?
Government regulation could limit how producer and effect a firm can be if it is excessive. This is sometimes referred to as 'red tape'
How do demographic changes and migration influence LRAS?
If there is net inward migration and the majority of the population is of working age, the size of the labour force is going to be significant, which means the economy can increase its output.
How does competition policy influence LRAS?
A more competitive market encourages firms t be more efficient and more productive, is they are not competed out of business. Governments can use effective competition policy to stimulate this in the economy
What does the Keynesian view suggest?
The price level in the economy is fixed until resources are fully employed
Keynesian AS curve on a diagram?
(PMT)
The horizontal section shows the output and price level when resources are not fully employed; there is spare capacity in the economy. The vertical section is when resources are fully employed.
Over the spare capacity section, output can be increased (AD1 to AD2) without affecting the price level (stays at P1). In other words, output changes are not inflationary.
Once resources are fully employed, an increase in output (AD3 to AD4) will be inflationary (price level increases from P2 to P3).
When does the SRAS curve shift?
The curve shifts when there are changes in the conditions of supply
SRAS curve on a diagram?
(pg 348)
As AD curve shifts from AD1 to AD2, the resulting increase in real output is proportionately greater than the increase in price level. Real income increases from Y1 to Y2 and shifting along the relatively shallow section of the SRAS curve. But when the AD curve shifts from AD3 to AD4, it is shifting along a much steeper section of the SRAS curve. As a result, most of the effect of the increase in AD falls on the price level rather than on real output. The effect is inflationary rather than reflationary. Indeed, if the AD curve were to shift any further to the right than AD4, only the price level and not real output would rise.
What causes a rightward shift in the SRAS curve?
- A fall in the businesses costs of production
- A fall in unit labour costs
- A reduction in indirect taxes
- An increase in subsidies granted to firms by the government
- Technical progress which improves the quality and productivity of capital goods
