AQA Specification focus:
‘The position of the vertical long-run AS curve represents the normal capacity level of output of the economy.’
Introduction
The vertical long-run aggregate supply (LRAS) curve represents an economy’s maximum sustainable output, showing the normal capacity level and highlighting constraints beyond short-run fluctuations.
Understanding the Vertical LRAS Curve
The long-run aggregate supply (LRAS) curve illustrates the relationship between the overall price level and the total output an economy can produce when all resources are fully employed and operating efficiently.
Long-run Aggregate Supply (LRAS): The total output an economy can produce when all factors of production are fully utilised at normal capacity, unaffected by the price level.
In the long run, aggregate supply is assumed to be independent of the price level, which is why the LRAS curve is drawn vertically. This reflects the fact that higher prices do not increase an economy’s capacity to produce goods and services once resources are fully utilised.
Capacity Output and Economic Limits
The capacity level of output represents the maximum sustainable level of real GDP. It reflects the potential output of the economy without generating inflationary pressure.
Capacity output is determined by the quantity and quality of factors of production (land, labour, capital, enterprise).
It represents the level of output consistent with full employment.
Attempting to push beyond this output leads to demand-pull inflation rather than higher real output.
Capacity Output: The maximum level of real GDP an economy can produce using existing resources and technology at sustainable levels.
This makes the vertical LRAS a central concept in understanding the long-run performance of an economy.
Why LRAS is Vertical
The vertical shape arises from the assumption that, in the long run:
All resources (labour, capital, technology) are fully utilised.
Increases in the price level do not expand real output because production capacity is fixed.
Any rise in aggregate demand at this point will only increase the price level, not output.
Thus, the LRAS is fundamentally different from the short-run aggregate supply (SRAS) curve, which slopes upwards because output can increase temporarily with higher prices due to spare capacity or underemployment.
Determinants of Capacity Output
Although the LRAS is vertical, its position can shift if the capacity of the economy changes. Key determinants include:
Labour
Changes in population size or labour force participation.
Improvements in education and skills that enhance productivity.
Capital
Investment in infrastructure, machinery, and technology.
Capital deepening (more capital per worker) increases potential output.
Productivity and Technology
Technological advances allow more efficient production.
Productivity gains push the LRAS rightward.
Enterprise and Institutions
Strong business innovation and risk-taking increase capacity.
Effective legal and financial systems support long-term growth.
LRAS and Full Employment
The vertical LRAS corresponds to the economy’s natural rate of output, often linked to full employment.
Full Employment Level of Output: The level of GDP where all available labour resources are used efficiently, allowing for frictional and structural unemployment but avoiding cyclical unemployment.
This does not mean zero unemployment, but rather that unemployment is at its natural rate, consistent with efficient functioning of the labour market.
Shifts in the Vertical LRAS Curve
The LRAS can shift either outward (to the right) or inward (to the left):
Rightward shifts occur with long-term economic growth due to:
Improved productivity
Technological progress
Better education and training
Increased investment in infrastructure
Leftward shifts may happen if:
Resources become unavailable (e.g., war, natural disaster)
Institutions collapse, reducing productive efficiency
Significant outward migration reduces the workforce
Such shifts represent structural changes in the economy, not short-run fluctuations.
The LRAS in Economic Analysis
In macroeconomic analysis, the vertical LRAS plays a critical role in explaining:
Why demand-side policies (e.g., fiscal or monetary stimulus) cannot raise output beyond capacity in the long run.
Why supply-side policies (education, infrastructure investment, deregulation) are essential for shifting LRAS outward and achieving sustainable growth.
It also illustrates the point that sustainable long-term growth depends on increasing productive capacity, not simply stimulating demand.
Key Points Recap
The vertical LRAS curve represents the economy’s normal capacity level of output.
Capacity output is the maximum sustainable real GDP achievable with existing resources and technology.
LRAS is vertical because price levels do not affect long-run output.
Shifts in LRAS occur when long-term factors such as technology, labour, and capital change.
The LRAS reflects full employment and natural output levels, central to understanding macroeconomic equilibrium.
FAQ
The vertical LRAS curve reflects the classical view that the economy always returns to full capacity output, regardless of price level.
In contrast, the Keynesian LRAS curve is not vertical. It allows for spare capacity and shows that output can increase without inflation when resources are underutilised. Only at full employment does it become vertical.
A rightward shift of the vertical LRAS curve indicates growth in potential output.
This occurs when:
Technology improves production efficiency
Labour quality and quantity rise
Capital stock and infrastructure expand
Such shifts signal that the economy can sustainably produce more goods and services in the long run.
Once the economy reaches full capacity, additional demand only raises prices, not real output.
This means demand-side policies are effective in the short run but limited in the long run.
Supply-side measures are required to increase potential output by shifting LRAS rightwards.
Negative shocks can shift LRAS to the left by reducing productive capacity.
Examples include:
Natural disasters destroying capital and infrastructure
Political instability or institutional collapse reducing efficiency
Workforce reductions due to migration or demographic changes
Such shocks lower the economy’s long-term potential output.
The vertical LRAS provides a benchmark for assessing supply-side reforms.
If policies such as investment in education, deregulation, or tax incentives increase efficiency, the LRAS shifts right.
This shift reflects higher long-run potential output, showing the policies’ effectiveness.
Practice Questions
Explain why the long-run aggregate supply (LRAS) curve is drawn vertically. (2 marks)
1 mark for stating that LRAS is vertical because in the long run output is independent of the price level.
1 mark for explaining that the vertical position represents the economy’s full capacity or potential output.
Using an aggregate demand and aggregate supply diagram, explain how an increase in investment could affect the position of the LRAS curve and the level of economic output in the long run. (6 marks)
1 mark for correctly stating that LRAS can shift to the right if productive capacity increases.
1 mark for linking increased investment to capital accumulation or improved infrastructure.
1 mark for noting that higher investment can improve productivity and efficiency.
1 mark for explaining that the shift in LRAS represents an increase in potential output.
1 mark for referring to long-run economic growth or sustainable increases in output.
1 mark for accurate use of an AD/AS diagram with the LRAS shift clearly shown.
