Shifts of the Long-Run Aggregate Supply (LRAS) (DP IB Economics)
Revision Note
Factors that Shift the LRAS
Classical economists believe that the long-run aggregate supply (LRAS) can increase in the long-run
Keynesian economists believe that aggregate supply can increase in the long-term
The following factors will shift the entire Classical LRAS curve, or the Keynesian AS curve outwards, thus increasing the potential output of the economy. This corresponds to an outward or inward shift on the production possibilities curve for an economy
Changes in the quality or quantity of the factors of production: Any factor that increases the quantity or quality of a factor of production will increase the productive potential of an economy e.g. improving the skills of workers or changing the migration policies so that there is an increase the quantity of labour
Technological advances: these often improve the quality of the factors of production e.g. development of metal alloys
Efficiency improvements: process innovation often results in productivity improvement e.g. moving from labour intensive car production to automated car production
Changes in institutions: increasing financial institutions can result in more access to finance and help to increase the potential supply. Creating and implementing new legislation (laws) can make it easier for new firms to enter markets thus increasing supply e.g. implementation of competition policy
Examiner Tip
You will frequently be examined on your understanding of factors that shift the short-run aggregate supply (SRAS) curve and long-run aggregate supply (LRAS) curve.
Make sure you know the difference and remember that LRAS factors will shift the entire LRAS curve to the right, representing an increase in the potential output of the economy. Changes to SRAS do not change the potential output of the economy.
Diagrammatic Illustration of Long-run Shifts
1. Changes to LRAS in the Classical Model
Changes to any of the determinants of LRAS will change the long-run productive potential of the economy
The Classical view of an increase in the long-run aggregate supply (LRAS) of an economy leading to lower average price levels
Diagram Analysis
The initial potential output of this economy is seen at YFE
The economy is in equilibrium at AP1YFE
A change to the education level in the economy can increase the quality of labour and shift the LRAS to the right from LRAS1→LRAS2
There is now an increased level of potential output in the economy at YFE1
The extra supply in the economy allows prices to fall and output to increase resulting in a new equilibrium at AP2YFE1
2. Changes to AS in the Keynesian Model
As with the Classical model, changes to any of the determinants of AS will change the long term productive potential of the economy
The Keynesian view of an increase in the long-term aggregate supply (LRAS) of an economy
Diagram Analysis
The initial potential output of this economy is seen at YFE
A change to the immigration policy can increase the quantity of labour and shift the AS to the right from AS1→AS2
There is now an increased level of possible output in the economy YFE1
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