February 21, 2017

Aggregate supply

• the level of Real GDP that firms will produce at each price level
• Aggregate supply splits into 2 categories

Long-Run

• Periods of time where input prices are completely flexible and adjust to changes in the price level.
• In the long run, level of REAL GDP supplies is independent of the price level.
• The Long-Run Aggregate Supply or LRAS marks the level of full employment in the economy
• Analogous to PPC
• Yf = full employment

Short-Run

• Period of time where input prices are sticky and 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.
• Since input prices are "sticky", the SRAS will slope upwards.
• Changes in SRAS
• Increase = shift to the right
• Decrease = shift to the left
• Shifts is based on per unit cost of production
• Per-unit production cost = total input cost / total output
• Determinants of SRAS
• Input prices
• Domestic Resource Prices
• Wages (75% of all business costs)
• Cost of capital
• Raw Materials (commodity prices)
• Foreign Resource Prices
• Strong $ = lower foreign price
• Weak $ = higher foreign price
• Market Power
• Monopolies and cartels (both are illegal)
• Increase in Resource Prices = SRAS shifts left
• Decrease in Resource Prices = SRAS to the right
• Productivity
• Productivity = total output / total input
• More productive = lower unit production cost = SRAS to right
• Lower productivity - higher unit production cost = SRAS to left
• Ex: When business is busy, all employees needed. When business is slow, you may need to cut employees
• Legal-Institutional Environment
• Taxes and Subsidies
• Taxes ($ to gov) on business increase per unit production cost = SRAS to left
• Subsidies ($ fr gov) to business reduce per unit production cost = SRAS to right
• Government Regulation
• Government regulation creates a cost of compliance = SRAS to left
• Deregulation reduces compliance costs = SRAS to right