November 1, 2016

Aggregate Supply

Aggregate supply is the sum total of all the output from all the firms. Usually the aggregate supply curve is plotted between Real GDP and price level. The aggregate supply curve from macroeconomics perspective is different from the supply curve of one good, from microeconomics perspective. The aggregate supply curve traces the effect on output because of price level changes. In that context, economics talk about two aggregate supply curves
  • Short run aggregate supply curve
  • Long run aggregate supply curve

Short run aggregate supply curve
In shorter term, the supply curve is upward sloping. The short run supply curve is effective from the point the price rise happens to the point when the prices for input also catches up. The components of input are price of input materials and wages. The nature of short run aggregate supply curve is driven by the rigidity of prices and wages in the short run. However in the long run, prices are wages get adjusted and the production output returns back to its original level and that's where we see the vertical line in terms of long run aggregate supply curve.

Long run aggregate supply curve
In the longer run, the supply curve is a vertical line. This is what has been propagated by classical economist, prior to Keynes. The classical economist were of the opinion that supply creates its own demand. The change in demand only shift the price level without impacting the level of production outputs.

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