Aggregate Supply

Published Aug 3, 2023

Definition of Aggregate Supply

Aggregate Supply represents the total amount of goods and services that all firms in an economy are willing and able to produce at a given price level. In simple terms, it shows the quantity of goods and services that can be supplied at different price levels assuming all other factors are unchanged. The aggregate supply curve is influenced by several factors such as the cost of production, technological advancements, and the price of inputs.

Example

Let’s consider a hypothetical economy that produces only two goods: bread and chairs, for simplicity. Assume the cost of production for both goods remains constant, and there are no technological advancements in the economy. The table below shows the aggregate supply of bread and chairs at different price levels.

As you can see from the table, at a lower price level (10), the economy produces 100 units of bread and 150 units of chairs. However, as the price level increases to 20, the economy produces more bread (200 units), and the supply of chairs remains constant (150 units). Further increasing the price level to 30 leads to an increase in the production of both bread and chairs. The supply of bread increases to 250 units, and the supply of chairs increases to 250 units as well.

Why Aggregate Supply Matters

Aggregate supply is an important concept because it represents the potential output of an economy at any given price level. It helps policymakers to understand the behavior of firms and the overall health of the economy. Any shift in Aggregate Supply can cause changes in the price level, affecting inflation rates, economic growth, and employment rates. Hence, understanding Aggregate Supply is important when formulating economic policies and making informed decisions.