What is Short-Run Aggregate Supply?

• Shows the relationship between the aggregate price level and the quantity of aggregate output supplied in the economy

• As the aggregate price level increases, the aggregate output increases

• Profit per unit of output = Price per unit of output - Production cost per unit of output

• As the price level increases, producers are collectively going to produce more goods and services

• This is all in the short-run

  

Nominal Wages and Sticky Wages

• The largest source of inflexible production cost is wages paid to workers (all forms of compensation)

• Typically, wages paid to workers are paid as nominal wages and not real wages

  • We think in nominal terms, not in real terms

  • Wages are not necessarily responsive to current economic conditions

  • Wages, therefore, are considered sticky

• Sticky wages are nominal wages that are slow to fall in unemployment and slow to rise in labor shortages

Shifts in the Aggregate Supply Curve

• Changes in Commodity Prices

  • Increase in the price of oil raises production costs and shifts AS to the left

  • Decrease in the price of oil lowers production costs and shifts AS to the right

• Changes in Nominal Wages

  • A fall in nominal wages shifts the AS to the right

  • An increase in money paid to workers (cost of living increases) shifts the AS to the left

• Changes in Productivity

  • Technology improvements will cause workers to increase productivity. AS shifts right

  • New worker regulations has the opposite effect. AS shifts to the left

  

Long-Run Aggregate Supply Curve

• Shows the relationship between the aggregate price level and the quantity of aggregate output supplied that would exist if all prices, including nominal wages were fully flexible

• Potential output

  • level of real GDP the economy would produce if all prices, including nominal wages adjusted properly

• What would shift the LRAS?

  • Increases in resources (land, labor, capital)

  • Increases in the quality of resources (more educated workforce)

  • Technological progress

Examples

• If the aggregate output exceeded potential output, what would happen to the SRAS? What would happen to wages?

  

• If the aggregate output fell short of potential output, what would happen to the SRAS? What would happen to wages