Long run aggregate supply

In economics, the long run refers to a situation when producers can increase the output of their goods and services without any short-run constraints in terms of fixed factors. In the long run all factors of production can be increased, including capital assets.

The long run aggregate supply curve (or LRAS curve) is assumed to be a vertical curve at the economy’s current capacity (at YF).

The position of the LRAS curve is not determined by the price level, but by factors that affect the capacity of firms in the economy.

In the long run, and assuming normal levels of inflation – somewhere between 2 and 5% - the price level has little bearing on output.

However, the quantity and quality of factors, including 'human capital', the use of technology, and the productivity of factors, do have an influence on the capcity of the economy, and therefore on the position of the LRAS curve.

Although vertical, the LRAS can shift if productive potential changes, such as when education and training, or new technology, improves labour productivity.

Long run aggregate supply

Video on long run aggregate supply

The LRAS curve is influenced by supply-side policy rather than fiscal or monetary policy.

Changes in monetary policy affect aggregate demand and not aggregate supply. While a monetary expansion can produce short run effects, the consensus view is that a monetary expansion will have no effect on real output and employment in the long run, as shown below.

Long run aggregate supply

Productivity and long run aggregate supply

Labour productivity (output per worker or output per hour worked) is a key determinant of an economy’s ability to produce in the long run. There are three key factors that determine productivity:

Human capital – this refers to the sum of the accumulated knowledge, skills and expertise gained from formal and informal education and training. Improvements in education and training will improve productivity and enable supply to increase in the long run.

Use of new technology – invention and innovation and its incorporation in new technology enables productivity to increase.

Scale economies – as firms increase their scale they can make efficiency gains which convert to productivity improvements.

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