Narrator: We've talked a lot about aggregate demand over the last few videos, so in this video, I thought I would talk a little bit about aggregate supply. In particular, we're going to think about aggregate supply in the long-run. In economics, whether
it's in micro or macro economics, when we think about long-run, we're thinking about
enough time for a lot of fixed costs and a lot of
fixed contracts to expire. In the short-term, you
might be stuck into some labor contract, or stuck
into your using some factory that you've already paid
money for, so it was a fixed cost, but over the long-run
you'll have a chance that factory will wear down
and you'll have a chance to decide whether you
want another factory or the price of the factory might change; or in the long-run, you'll have a chance contracts will expire,
and you'll have a chance to renegotiate those
contracts at a new price. That's what we really mean when we talk about the long-run. I'm going to plot aggregate
supply on the same axis as we plotted aggregate
demand, and we're going to focus on the long-run
now, and then we're going to think about what
actually might happen in the short-run while we are
in fixed-price contracts, or we already have spent
money on something, or we have already, in
some ways, there are sticky things that can't adjust as quickly. But, we'll first focus on the long-run. On this axis, I'm just
going to plot price, and remember, we're thinking
in macro-economic terms. This is some measure of the prices of the goods and services in our economy. This axis right over here, the horizontal axis is
going to be real GDP. Once again, this is just
a model, you should take everything in economics
with a huge grain of salt. These are over-simplifications
of a highly, highly complex thing, the economy. Millions and millions of actors doing complex things, human
beings, each of them and their brain have billions
and billions and billions of neurons, doing all sorts
of unpredictable things. But economists like to make really simplifying,
super-simplifying assumptions, so that we can deal with
it in a attractable way, and in a even dealing
in a mathematical way. The assumtion that economists often make when we think about aggregate supply and aggregate demand is, in the long-run, real GDP actually does
not depend on prices in the long-run; so, what you have is, regardless of what the
price is, you're going to have the same real GDP. You can view this as a natural level of productivity for the economy. This is some level right over here. It's important to realize this is just a snap shot in time, and this
is all else things equal, so we're not assuming that
we're having changes in productivity overtime;
this is just a snap shot if we did have any of those
things that change. For example, if the population
increased, then that would cause this level to
shift to the right, then we would have a higher
natural level of productivity. If, for whatever reason, we
were able to create tools so that it was easier to
find people jobs, there's always a natural rate of unemployment. There's frictions, people
have to look for jobs, some people have to retrain
to get their skills, but maybe we improve
that in some way so that there's some website
where people can find jobs easier, or easier ways to train for jobs, and the natural level of
unemployment goes down, more people can produce, that would also shift this curve to the right. You could have a reality where there's technological improvements
that would also, and then all of a sudden, on an average, people would become more productive; that could shift things to the right. You could have discovery
of natural resources, new land that is super
fertile, and everything else; that could also shift things to the right. You could have a war, and maybe your factories get bombed, or
bad things happen in a war, especially if the war is on your soil, and that could actually
shift things to the left. So, it's important to realize
that this is just taking a snap shot in time, and a lot of these other things that we
think about would just shift it in 1 direction or another. I'm going to leave you
there, and this is a kind of it might not seem
intuitive at first, because you're saying, "Wait, look,
if prices were to change dramatically, if all of a
sudden everything in the economy got twice as
expensive, that would have some impact on peoples'
minds and that they would behave differently and all
the rest, and that might affect how much they can produce." We did think a little
about that when we thought about aggregate demand, but when we think about aggregate supply,
we're just thinking about their capability to produce. We're saying all else equal. We're saying that peoples'
mind-shifts aren't changing, their willingness
to work isn't changing, nothing else is changing,
technology isn't changing. Given that, price really
is just a numeric thing. If you just looked at the resources and the productive
capability of a country, the factors of production,
the people and all the rest, regardless of what the
prices are, they in theory, should be able to produce the same level of goods and services.