Long Run Aggregate Supply Flashcards, test questions and answers

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What is Long Run Aggregate Supply?

Long-Run Aggregate Supply (LRAS) is the relationship between the quantity of goods supplied in an economy at a given price level and a range of potential real GDP levels. It measures how much output an economy can produce with full employment of resources, given current technology and factor prices. This supply curve is typically upward-sloping because as real GDP increases, more resources are available to be used in production, resulting in higher total output or supply.At its most basic level, the LRAS reflects the idea that economies tend to become more productive over time due to advances in technology, increased specialization and economic growth. As these factors increase output potential, firms have incentive to hire more workers which drives wages up and increases aggregate demand for goods and services. In turn, this stimulates growth in employment which further boosts aggregate demand and leads to an increase in real GDP over time. In theory, LRAS is vertical at a certain full-employment level of real GDP known as potential output meaning that any change in factor prices will not cause changes in output quantity since all available resources are already fully employed. In practice however it tends to remain slightly elastic due external shocks like oil price shocks or natural disasters which temporarily reduce output levels causing the LRAS curve to become less steep or even curved downwards for short periods of time before returning back towards its original vertical state once equilibrium is restored. Overall understanding the Long Run Aggregate Supply curve provides key insights into how productive an economy can be under various conditions so governments can make better policies for growth and stability within their countries’ economies – such as setting interest rates or implementing fiscal policies – leading to greater overall economic health overall.