Aggregate supply (AS) is the total amount of goods and services (real output) produced and supplied by an economy’s firms in a year.

It includes the supply of a number of types of goods and services including private consumer goods, capital goods, public  and goods for overseas markets.

Components of AS

Consumer goods

Private consumer goods and services, such as motor vehicles, computers, clothes and entertainment, are supplied by the private sector,  and consumed by households. For a developed economy, this is the single largest component of aggregate supply.

Capital goods

Capital goods, such as machinery, equipment, and plant, are supplied to other firms. These investment goods are significant in that their use adds to capacity, and increases the economy’s ability to supply private consumer goods in the future.

Public goods

Goods and services produced by both public and private enterprises for use by central or local government, such as education and healthcare, are also a significant component of aggregate supply. 

Traded goods

Goods and services for export, such as dairy products, entertainment, and financial services are also a key component of aggregate supply.

The  law of supply says that firms will, produce more output at higher price levels.

At higher price levels across the economy firms expect that they can sell their final products at higher prices, and there will be a positive relationship between the price level and aggregate supply.

Any increase in input or resource prices (costs) which may follow is assumed to lag behind increases in the general price level. Because of this firms expect that they will benefit - at least in the short run - from a rise in the price level.

Hover over each of the points in the AS diagram or the PPF for an explanation of the changes.

What are the main causes of shifts in aggregate supply?

The main cause of a shift in the aggregate supply curve is a change in business costs – for example:

Changes in nominal labour costs - an increase in the nominal wage rate.

Changes in other production costs: For example rental costs, the price of electricity - something that affects a large number of firms.

Commodity prices - Changes to raw material costs and other components e.g. the prices of oil, natural gas, electricity etc.

Exchange rates: Costs might be affected by a change in the exchange rate which causes fluctuations in the prices of imported products. A fall (depreciation) in the exchange rate increases the costs of importing raw materials and inputs into the production process.

Government taxation and subsidies:

1. An increase in taxes to meet environmental objectives (known as green taxes) will cause higher costs.
2. Increase in fuel taxes.
3. Increase in indirect taxes such as GST.

The price of imports: - the cost of imported raw materials, such as oil, metals and other inputs into the production process.