Long-Run Aggregate Supply (LRAS) Curve

Definition

The Long-Run Aggregate Supply (LRAS) Curve represents the total quantity of goods and services that an economy can produce when utilizing all its resources efficiently, at full employment. It is vertical, indicating that in the long run, output is determined by factors like technology, capital, and labor rather than price levels. This curve highlights how, in the long run, an economy's potential output is constant despite changes in price levels, which links to concepts of economic stability and self-adjustment mechanisms.

5 Must Know Facts For Your Next Test

1. The LRAS curve is vertical at the level of potential output, indicating that in the long run, an economy's output is not affected by changes in price levels.
2. Shifts in the LRAS curve can occur due to changes in factors like technology advancements, increases in capital stock, or changes in labor force participation.
3. The concept of LRAS is crucial for understanding economic growth, as shifts to the right indicate an increase in an economy's capacity to produce goods and services.
4. In the context of self-adjustment, if an economy operates below its LRAS, market forces will eventually drive it back to full employment as prices and wages adjust.
5. LRAS helps explain why long-term inflation is typically tied to increases in aggregate demand rather than aggregate supply adjustments.

Review Questions

• How does the LRAS curve illustrate the relationship between output and price levels over the long term?
  • The LRAS curve shows that in the long term, output remains constant regardless of price levels, represented by its vertical nature. This means that an economy will produce at its potential output even when prices fluctuate. In essence, while prices can change in the short term due to various factors, the LRAS indicates that real GDP will stabilize at full employment over time.
• Discuss how shifts in the LRAS curve can impact economic growth and overall economic stability.
  • Shifts in the LRAS curve directly affect an economy's potential output. When the LRAS shifts to the right due to factors like improved technology or increased capital investment, it indicates enhanced production capacity and potential for economic growth. Conversely, a leftward shift may signify a reduction in productive capacity due to factors such as natural disasters or declining workforce participation. Such shifts are crucial for policymakers as they seek to maintain stability and foster growth.
• Evaluate the significance of the LRAS curve in understanding long-run self-adjustment mechanisms within an economy.
  • The LRAS curve plays a critical role in comprehending how economies self-adjust over time. When there are shocks to demand or supply, economies may deviate from their potential output. However, due to mechanisms like wage and price flexibility, these economies will gradually return to their long-run equilibrium represented by the LRAS. Understanding this process is vital for predicting how economies react to various disturbances and for formulating policies that enhance resilience and recovery.

Related terms

Short-Run Aggregate Supply (SRAS): The Short-Run Aggregate Supply (SRAS) curve illustrates how total production can increase with higher price levels when some resources are fixed, leading to a positive relationship between price and quantity supplied in the short run.

Potential Output: Potential output refers to the highest level of economic performance an economy can sustain over the long term without increasing inflation, determined by resource availability and technology.

Full Employment:

Full employment is a condition where all available labor resources are being used in the most efficient way possible, not implying zero unemployment but rather a natural rate of unemployment.