The Law of Supply

Aggregate Supply

Aggregate supply simply refers to the total amount produced in an economy in a given period of time. Unlike aggregate demand, aggregate supply does not have a convenient formula to help us establish which factors will affect it. However, there are a few simple rules which we can use to help us establish which factors will affect aggregate supply:

1. Costs of production – Any change to a cost of production will affect the willingness of suppliers to produce output. For example, a change in interest rates, wages, tax rates or the cost of raw materials can all change the margin available to producers, and as a result will affect the production levels.
2. Availability of resources – If resources become more or less available, suppliers may be able to use them in a different way. The available resources include land, labour, capital and enterprise. If, for example, the participation rate increases and the labour resource becomes more available, suppliers may use the opportunity to increase their levels of production.
3. Efficiency – When productivity rates increase, the real cost per item being produced will fall. As a result, suppliers are once again able to make a higher margin on each item that they sell, and so they may be willing to allocate more of their resources to the production of these items.

By using these rules as a guide, we can assess how any factor will affect aggregate supply. For example, if we know that productivity rates in Australia have increased, we can see that will lead to a higher level of efficiency in the Australian economy. As a result, the real cost per item has fallen, and the margin available to producers has increased. This means that aggregate supply will probably increase, which is represented by shifting the curve to the right.

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