2.3.1 Aggregate Supply
Edexcel A-Level Economics (9EC0) | Theme 2.3.1
Short-Run Aggregate Supply (SRAS)
Definition: Short-run aggregate supply is the total planned output of goods and services in an economy at a given price level in a period where at least one factor of production is fixed, such as the capital stock or technology.
The SRAS Curve
Why the SRAS Curve Slopes Upward
In the short run, as output increases, firms face rising unit costs, such as paying overtime wages or using less efficient machinery.
To maintain profitability, firms need to charge higher prices for this extra output.
Movements vs. Shifts of the SRAS Curve
A Movement Along the SRAS Curve
- Cause: A change in the average price level, holding other things constant.
- This shows firms changing their level of output in response to a change in price level.
A Shift of the Entire SRAS Curve
- Cause: A change in any condition of supply, meaning a change in production costs for firms across the economy.
- This changes the level of output firms are willing to supply at every given price level.
Determinants of SRAS
Any factor that changes the costs of production for firms will shift SRAS.
| Factor | Effect on SRAS | Reason and Example |
|---|---|---|
| Changes in Resource or Commodity Prices | Prices up means SRAS shifts left. Prices down means SRAS shifts right. | These changes directly affect production costs. |
| Changes in Exchange Rates | An appreciation of sterling increases SRAS because imported raw materials become cheaper. A depreciation reduces SRAS because imports become more expensive. | Exchange rates affect the cost of imported raw materials and components. |
| Changes in Taxes or Subsidies | Higher indirect taxes reduce SRAS. Higher subsidies increase SRAS. | Taxes raise costs while subsidies lower production costs. |
| Supply Shocks | A negative shock reduces SRAS. A positive shock increases SRAS. | Events such as natural disasters, wars, or pandemics can create sudden disruptions to production. |
Long-Run Aggregate Supply (LRAS)
Definition: Long-run aggregate supply is the total potential output of an economy when all factors of production are fully and efficiently employed.
It represents the economy's productive capacity.
Key Idea: The LRAS curve is independent of the price level. It depends on the quantity and quality of the factors of production, such as labour, capital, resources, technology, and entrepreneurship.
The Relationship Between SRAS and LRAS
- SRAS shows what firms will produce at different price levels in the short run.
- LRAS shows what the economy can produce at maximum potential.
- Long-run economic growth is shown by an outward shift of the LRAS curve, meaning an increase in productive capacity.
- In the long run, the economy tends towards the LRAS level of output, while SRAS shocks are temporary adjustments around that trend.
Exam Preparation
- Draw the upward-sloping SRAS curve and the vertical LRAS curve accurately.
- Explain why the SRAS curve slopes upward using the idea of rising unit costs.
- Distinguish between a movement along SRAS caused by a price change and a shift of SRAS caused by a change in production costs.
- Analyse how events such as an oil price rise, currency depreciation, or a new subsidy would shift SRAS.
- Understand that LRAS represents the economy's productive potential and that shifts in LRAS indicate long-run economic growth.