AQA Specification focus:
‘The factors which affect long-run AS and distinguish them from those which affect short-run AS.’
Understanding the difference between long-run aggregate supply (LRAS) and short-run aggregate supply (SRAS) is essential for analysing how economies respond to changes in costs, resources, and productive capacity.
Aggregate Supply: Short-Run vs Long-Run
Aggregate supply (AS) represents the total output of goods and services that producers in an economy are willing and able to supply at a given overall price level.
Short-Run Aggregate Supply (SRAS)
The short run refers to a period where at least one factor of production is fixed, most commonly capital. Therefore, output changes largely reflect adjustments in the use of existing capacity.
SRAS is upward sloping because higher price levels encourage firms to produce more, as rising revenues exceed sticky input costs in the short run.
Key influences are cost-related and temporary.
Short-Run Aggregate Supply (SRAS): The relationship between output and the price level when at least one factor of production is fixed, usually capital.
Long-Run Aggregate Supply (LRAS)
The long run is defined as a period when all factors of production, including capital, can be varied. LRAS represents the economy’s maximum potential output at full employment.
LRAS is determined by productive capacity and is independent of the price level.
It is typically shown as a vertical line (in the classical model) or a curved Keynesian version.
Long-Run Aggregate Supply (LRAS): The total planned output of goods and services an economy can produce when all resources are fully employed and used efficiently.
Determinants of Short-Run Aggregate Supply
SRAS is shifted by changes in production costs rather than productive capacity. The main determinants include:
Wage rates: Higher wages raise costs and reduce SRAS.
Raw material prices: Fluctuations in oil, metals, and other inputs shift SRAS.
Business taxes and subsidies: Higher indirect taxes increase costs, reducing SRAS, while subsidies have the opposite effect.
Productivity changes: Higher labour productivity lowers unit costs, shifting SRAS outwards.
These factors operate over a relatively short period and primarily affect cost conditions.
Determinants of Long-Run Aggregate Supply
LRAS is determined by structural, supply-side factors that affect the economy’s potential output. Unlike SRAS, these are not cost shocks but long-term growth influences.
Key Long-Run Factors
Technology and innovation: Advances improve efficiency and capacity.
Labour productivity: Education, training, and skills development expand output potential.
Attitudes and work incentives: Strong work ethic and entrepreneurial spirit boost supply.
Enterprise and entrepreneurship: New businesses and innovation expand productive capacity.
Factor mobility: The ease with which labour and capital move between uses and locations increases adaptability.
Investment in capital stock: More and better capital raises potential output.
Institutional quality: Stable governments, secure property rights, and an effective banking system support long-run growth.
Productive Capacity: The maximum possible output of an economy when resources are fully and efficiently employed.
These determinants shift the LRAS curve outward if they enhance capacity, or inward if they undermine it (for example, through loss of skills or capital flight).
This diagram depicts the Classical model of aggregate demand (AD), short-run aggregate supply (SRAS), and long-run aggregate supply (LRAS). The LRAS curve is vertical at the full employment level of output, indicating that in the long run, output is determined by factors like technology and resources, not the price level. The SRAS curve slopes upward, reflecting the short-run relationship where output can increase with higher prices due to fixed input costs. Source
Distinguishing Long-Run from Short-Run Determinants
The distinction between SRAS and LRAS determinants lies in time scale and type of impact:
SRAS factors are temporary, cost-based changes that alter the level of output at existing capacity.
LRAS factors are structural, supply-side influences that alter the economy’s productive potential.
Short-Run vs Long-Run Impact Example
A rise in oil prices increases firms’ costs, shifting SRAS leftward but leaving LRAS unchanged.
A long-term investment in renewable energy could shift LRAS rightward by expanding sustainable productive capacity.
Linking Back to the Specification
The AQA specification emphasises that students must understand which factors affect SRAS (short-term cost shocks) and which affect LRAS (long-term capacity and growth factors). Recognising this difference is essential for analysing policies:
Demand management policies (e.g., fiscal or monetary policy) mainly affect SRAS in the short run.
This diagram shows the long-run aggregate supply (LRAS) curve as a vertical line at the economy’s potential level of output. It demonstrates that in the long run, the economy's output is determined by factors such as technology and resources, and is not influenced by the price level. The intersection of LRAS with aggregate demand (AD) determines the equilibrium output and price level. Source
Supply-side policies (e.g., education reform, infrastructure investment) aim to shift LRAS, supporting sustained economic growth.
This distinction is crucial for applying aggregate supply analysis to real-world economic performance and policy debates.
FAQ
Technology improves production methods, making processes more efficient and reducing waste.
As technology advances, firms can produce more with the same amount of inputs, leading to a rightward shift in LRAS. This effect is long-lasting because it changes the productive capacity of the economy, not just short-term costs.
Examples include automation, digitalisation, and renewable energy adoption, all of which expand potential output.
Supply-side policies aim to improve the long-term efficiency and flexibility of the economy.
Policies such as investment in education and training increase labour productivity.
Infrastructure spending enhances the mobility of goods and labour.
Tax incentives can stimulate enterprise and innovation.
These measures shift LRAS rightward by raising potential output, whereas their effect on SRAS is usually minimal in the short run.
In the classical model, the vertical LRAS curve represents the economy’s full employment level of output.
The idea is that in the long run, resources are fully utilised, and output cannot increase simply because prices rise. Inflation only affects the price level, not real output.
This reflects the belief that long-run growth is determined by real factors such as resources, productivity, and institutions.
Yes, LRAS can shift leftwards when the economy’s potential output falls.
Possible causes include:
A decline in labour supply due to ageing populations or migration.
Reduced investment in capital, leading to outdated infrastructure.
Institutional breakdowns, such as political instability or financial crises.
These reduce long-term productive capacity, limiting growth prospects.
Labour mobility refers to how easily workers can move between jobs, sectors, or regions.
High mobility ensures that workers can be allocated to where they are most productive, increasing efficiency and raising the economy’s maximum output.
Factors enhancing mobility include retraining schemes, relocation support, and flexible labour markets. Low mobility, by contrast, can restrict potential growth and prevent LRAS from shifting rightwards.
Practice Questions
Explain the difference between short-run aggregate supply (SRAS) and long-run aggregate supply (LRAS). (3 marks)
1 mark for stating that SRAS is determined by production costs in the short run while at least one factor of production is fixed.
1 mark for stating that LRAS reflects the economy’s maximum potential output when all factors of production are variable.
1 mark for stating that SRAS is affected by cost changes (e.g., wages, raw materials), whereas LRAS is influenced by structural factors (e.g., technology, productivity).
Discuss how an increase in labour productivity would affect both SRAS and LRAS in an economy. (6 marks)
1 mark for identifying that higher labour productivity reduces unit costs, shifting SRAS to the right.
1 mark for explaining that this increases short-run output at a given price level.
1 mark for identifying that higher labour productivity also enhances long-run productive capacity.
1 mark for explaining that LRAS shifts to the right due to greater efficiency and higher potential output.
1 mark for recognising the distinction between temporary short-run cost effects and permanent long-run capacity effects.
1 mark for providing relevant analysis, such as linking productivity improvements to sustained economic growth or potential policy implications.
