LONG RUN VS SHORT RUN AGGREGATE SUPPLY

LONG RUN AGGREGATE SUPPLY (LRAS)

-Period of time where input prices are completely flexible and adjust to changes in the price level.
-In the long run, the level of real GDP supplied is independent of the price level.
-The long run aggregate supply marks the level of full employment in the economy.
-Because input prices are completely flexible in the long run, change in price level do not change firms' real  profits and therefore do not change firms' level of output. this means that the LRAS is vertical at the  economy's level of full employment.

SHORT RUN AGGREGATE SUPPLY (SRAS)

-Period of time where input prices are sticky and do not adjust to changes in the price level.
-In the short run, the level of real GDP is directly related to the price level.

CHANGES IN SRAS

-An increase in SRAS is seen as a shift to the right(SRAS ->).
-A decrease in SRAS is seen as a shift to the left(SRAS <-).
-The key to understanding shift in SRAS is per unit cost of production.
-Per unit production cost = total input cost/ total output cost.

DETERMINANTS OF SRAS

-Input prices
-Productivity
-Legal-institutional environment

INPUT PRICES

-Domestic resource prices

 *Wages(75% of all business costs).
 *Cost of capital.
 *Raw materials(commodity prices).

-Foreign resource prices

 *Market power.
 *Increase in resource price(SRAS <-).
 *Decrease in resource prices(SRAS ->).

PRODUCTIVITY

-Productivity = total output/ total input.
-More productivity = lower unit production cost(SRAS ->).
-Lower productivity = higher unit production cost(SRAS <-).

LEGAL-INSTITUTIONAL ENVIRONMENT

-Taxes and subsidies

 *Taxes($ to government) on business increase per unit production cost(SRAS <-).
 *Subsidies($ from government) to business reduce per unit production cost(SRAS ->).

-Government regulation

 *Government regulation compliance cost(SRAS <-).
 *Deregulation reduces compliance cost(SRAS ->).

FULL EMPLOYMENT

-Full employment equilibrium exists where AD intersects LRAS X SRAS at the same point.

INFLATIONARY GAP

-An inflationary gap exists when equilibrium occurs beyond full employment prices.

RECESSIONARY GAP

-A recessionary gap exists when equilibrium occurs below full employment.