Question

There are several determinants of aggregate supply that can cause the aggregate supply curve to shift. a. Describe those determinants and give an example of a change in each. b. Draw and label an aggregate supply diagram that illustrates the effect of the change in each determinant.

Short answer

Question: Explain the key determinants of aggregate supply and give examples of changes that could lead to shifts in the curve. Additionally, describe how the aggregate supply curve shifts in response to these changes. Answer: The key determinants of aggregate supply are resource prices/input costs, technological progress, government policies, and the availability of inputs. For example, a decrease in input costs or an improvement in technology would result in an increase in aggregate supply and a rightward shift in the curve. On the other hand, increased production costs or decreased input availability would decrease aggregate supply and shift the curve to the left. Government policies, such as lower corporate taxes, could increase aggregate supply, while increased regulations could decrease it. When illustrating these shifts on a diagram, the aggregate supply curves (AS1 and AS2) would move accordingly on the graph with labeled axes.

Step-by-step solution

Part a: Determinants of Aggregate Supply and Examples of Changes

There are several key determinants of aggregate supply that can cause the aggregate supply curve to shift. Let's explain each of them and give examples of changes that could lead to shifts in the curve: 1. Resource Prices/Input Costs: If the costs of production inputs such as labor, raw materials, or capital resources decrease, aggregate supply will increase, and the curve will shift to the right. Similarly, if input costs increase, aggregate supply will decrease, resulting in the curve shifting to the left. For example, if there is a reduction in the price of oil, the cost of transporting goods could be lowered, which might lead to an increase in aggregate supply. 2. Technological Progress: Technological advancements in production methods allow for more output with the same amount of inputs or use fewer inputs to produce the same amount of output. This improvement in productivity would increase aggregate supply and shift the curve to the right. An example could be the introduction of automation in manufacturing, which allows for faster and more efficient production processes. 3. Government Policies: Government policies can either increase or decrease aggregate supply, depending on their effects on production costs, regulations, and workforce availability. For instance, a decrease in corporate tax rates might decrease companies' production costs and increase aggregate supply, shifting the curve to the right. 4. Availability of Inputs: An increase in the availability of crucial inputs such as labor or capital resources can increase aggregate supply, causing the curve to shift to the right. Conversely, a decrease in input availability would cause the aggregate supply curve to shift left. For example, an increase in immigration could cause an increase in the labor supply, potentially leading to increased production and higher aggregate supply.

Part b: Drawing Aggregate Supply Diagrams

Let's draw and describe diagrams that depict the effect of the above changes on the aggregate supply curve. 1. Resource Prices/Input Costs: If the input costs decrease, the aggregate supply curve shifts to the right. On the other hand, if input costs increase, the aggregate supply curve shifts to the left. 2. Technological Progress: When there's an improvement in technology, the aggregate supply curve shifts to the right due to increased productivity. 3. Government Policies: For example, if the government reduces corporate taxes, the aggregate supply curve shifts to the right. In contrast, increased regulations or higher taxes could potentially shift the curve to the left. 4. Availability of Inputs: An increase in the availability of crucial input resources would cause the aggregate supply curve to shift to the right, while a decrease in input resources would cause it to shift to the left. In each of these cases, the aggregate supply diagram could include a labeled axis (x-axis as Real GDP and y-axis as the Price level) with an initial aggregate supply curve (AS1) and the shifted aggregate supply curve (AS2). The illustration should show the direction of the shift in each case depending on the change in the determinant (either increasing or decreasing).