## Learning Outcomes

- Explain why **cost changes** shift the short-run aggregate supply curve rather than cause movement along it
- Identify the main SRAS cost shifters: **nominal wages**, **input prices**, and **expected inflation**
- Predict whether SRAS shifts left or right when production costs rise or fall
- Use AD-AS reasoning to explain the effects of an SRAS shift on **price level** and **real GDP**
- Distinguish **cost-push inflation** from **demand-pull inflation**
- Apply these ideas to common AP examples such as oil shocks, wage changes, and inflation expectations

## AP Macroeconomics Syllabus

For the AP Macroeconomics, you are expected to understand how cost-side factors shift short-run aggregate supply, with a focus on the following syllabus points:

- Know that a rise in **per-unit production costs** shifts SRAS left, while a fall shifts SRAS right
- Identify **nominal wages**, **input/resource prices**, and **inflationary expectations** as major SRAS shifters
- Explain the difference between a **movement along SRAS** caused by a change in the price level and a **shift of SRAS** caused by cost changes
- Understand how an adverse supply shock, such as an oil price increase, can reduce real GDP and raise the price level
- Distinguish **cost-push inflation** from inflation caused by rising aggregate demand
- Recognise that a leftward SRAS shift can create **stagflation**: higher inflation with lower output

## Test Your Knowledge

_Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, look more closely at that area during your revision._

1. What is the difference between a movement along SRAS and a shift of SRAS?
2. How do higher nominal wages affect short-run aggregate supply?
3. Why does an increase in oil prices usually shift SRAS left rather than AD?
4. What happens to the price level and real GDP when SRAS shifts left?
5. How does expected inflation affect current SRAS?

## Introduction

Short-run aggregate supply shows how much real output firms are willing to produce at different price levels in the short run. On the AP exam, students often know that SRAS slopes upward, but they lose marks when asked why the whole curve shifts.

The key idea is simple: when firms’ **per-unit production costs** change, the amount they are willing to produce at every price level changes too. Higher costs make production less profitable, so firms supply less at each price level. Lower costs make production more profitable, so firms supply more.

> **Key Term: short-run aggregate supply (SRAS)**
> The relationship between the price level and the quantity of real output firms are willing to produce in the short run.

## Introduction to cost changes and SRAS

### Movement along SRAS versus a shift of SRAS

This is the first distinction you must get right. If the **price level itself** changes, firms move along the existing SRAS curve. If some other factor changes production costs, the entire SRAS curve shifts.

Why? Because the graph has the **price level** on the vertical axis. A change in the variable on the axis gives movement along the curve. A change in a different variable changes the whole relationship between price level and output, so the curve shifts.

Suppose the price level rises while wages and other input costs stay the same for now. Firms can sell their output for more, so production becomes more profitable. They increase the quantity of real output supplied. That is a movement upward along SRAS.

Now suppose the price level stays the same, but oil becomes much more expensive. Firms now face higher costs at every level of production. At the same price level as before, some output is no longer profitable. Firms cut production. Since this happens at every price level, SRAS shifts left.

> **Key Term: movement along SRAS**
> A change in the quantity of real output supplied caused only by a change in the price level.
>
> **Key Term: SRAS shift**
> A leftward or rightward change in the entire short-run aggregate supply curve caused by a change in production costs or other non-price factors.

A good exam rule is:

- **Change in price level** -> movement along SRAS
- **Change in costs** -> shift of SRAS

Students often confuse “prices rose” with “SRAS shifted left.” You must ask: **which prices?** If it is the overall price level, move along the curve. If it is wages, oil, raw materials, or other inputs, shift the curve.

> **Test Tip:** On multiple-choice questions, underline whether the prompt changes the **price level** or a **cost of production**. That one step prevents many SRAS errors.

### Why higher costs shift SRAS left

Think like a firm. A firm compares its selling price with its cost of production. If costs rise but the price level has not yet changed, profit per unit falls. Some firms cut output, delay production, or stop producing their highest-cost units.

This is why the standard AP rule works:

- **Higher per-unit production costs** -> **SRAS left**
- **Lower per-unit production costs** -> **SRAS right**

A useful way to express this is through unit cost logic:

$$
\text{Per-unit production cost} = \frac{\text{total input cost}}{\text{output}}
$$

A common labor-cost form is:

$$
\text{Unit labor cost} = \frac{\text{nominal wage}}{\text{productivity}}
$$

If nominal wages rise and productivity does not, unit labor cost rises. Firms can profitably supply less at each price level, so SRAS shifts left.

If productivity rises while wages stay the same, unit labor cost falls. Firms can profitably supply more at each price level, so SRAS shifts right.

This matters because AP questions may disguise the issue. Instead of saying “costs rise,” a question might say:

- union contracts raise workers’ pay
- shipping costs jump
- oil prices surge
- factories face higher electricity bills
- shortages make components more expensive

All of these raise production costs, so all shift SRAS left.

> **Key Term: per-unit production cost**
> The cost of producing one unit of output; when this rises, SRAS shifts left, and when it falls, SRAS shifts right.

## Main cost shifters of SRAS

### Nominal wages, input prices, and expected inflation

The most tested SRAS shifters are **nominal wages**, **input prices**, and **expected inflation**.

Start with **nominal wages**. Firms pay workers in money terms, so if wages rise from $20 per hour to $24 per hour, labor costs rise even if the general price level has not changed yet. Since labor is a major input for most firms, higher nominal wages raise production costs and shift SRAS left.

Be careful: AP scoring uses **nominal wages**, not real wages, as the shifter. Students sometimes write “real wages rise” when the safer exam wording is “nominal wages rise.”

Now consider **input prices**. Inputs include raw materials, fuel, transportation, electricity, and other resource costs. If the price of oil rises sharply, airlines pay more for fuel, delivery firms pay more for transport, and factories pay more for energy and shipping. Even firms that do not buy crude oil directly may still face higher costs through the supply chain. That broad rise in production costs shifts SRAS left.

This is why an oil shock is such a classic supply shock. It does not mainly begin with households wanting more goods. It begins with firms facing higher production costs.

Finally, **expected inflation** matters because firms and workers set wages and prices partly based on what they think is coming next. If workers expect higher inflation soon, they push for higher nominal wages now to protect purchasing power. Firms expecting higher future costs may raise prices or reduce current supply. The result is a leftward SRAS shift.

If expected inflation falls, the opposite happens. Wage demands and price-setting pressure ease, production costs rise less quickly or may even fall relative to expectations, and SRAS shifts right.

> **Key Term: nominal wages**
> Wages measured in current dollars, not adjusted for inflation; higher nominal wages raise firms’ costs and shift SRAS left.
>
> **Key Term: inflationary expectations**
> Expectations that the price level will rise in the future; higher expected inflation tends to raise current costs and shift SRAS left.

Worked reasoning example:

- Workers expect inflation to rise next year
- They negotiate higher nominal wages now
- Firms face higher labor costs now
- Firms reduce output at each price level
- SRAS shifts left now

That chain matters on FRQs. Do not stop at “expected inflation rises.” You must connect it to **higher costs** and then to **SRAS left**.

> **Test Tip:** For FRQs, write the full chain: “Nominal wages/input prices/inflationary expectations increase, causing per-unit production costs to rise, so SRAS shifts left.”

### Positive and negative supply shocks

A **negative supply shock** is a sudden event that raises production costs or disrupts production. Examples include an oil price spike, a natural disaster that destroys productive capacity, or major shortages of key materials.

A **positive supply shock** does the reverse. It lowers production costs or improves production conditions. Examples include a fall in oil prices, cheaper shipping, or a jump in productivity.

Suppose oil prices rise sharply:

1. Transportation costs rise
2. Energy-intensive firms face higher bills
3. Input delivery costs rise
4. Per-unit production costs increase
5. SRAS shifts left
6. In the AD-AS model, the price level rises and real GDP falls

Suppose instead that natural gas prices fall sharply:

1. Energy costs fall
2. Firms can produce more cheaply
3. Per-unit production costs decline
4. SRAS shifts right
5. In the AD-AS model, the price level falls and real GDP rises
   > **Key Term: supply shock**
   > A sudden event that changes production costs and shifts SRAS; a negative shock shifts SRAS left, and a positive shock shifts it right.

## Using SRAS shifts in AD-AS analysis

### Cost-push inflation, stagflation, and exam applications

When SRAS shifts left, the usual AD-AS outcome is:

- **price level rises**
- **real GDP falls**

That combination is central to AP Macroeconomics because it explains **cost-push inflation** and **stagflation**.

**Cost-push inflation** means inflation caused by rising production costs, not by excessive total spending. If oil prices jump and firms raise prices to cover their higher costs while also cutting output, inflation is being pushed by the cost side.

This differs from **demand-pull inflation**, where aggregate demand rises and pulls prices upward. In demand-pull inflation, AD shifts right. In cost-push inflation, SRAS shifts left. Same direction for prices, different cause, different output result.

With demand-pull inflation:

- price level rises
- real GDP rises in the short run

With cost-push inflation:

- price level rises
- real GDP falls

That output difference is one of the easiest ways to tell them apart.

> **Key Term: cost-push inflation**
> Inflation caused by rising production costs that shift SRAS left.

If inflation rises while output falls and unemployment rises, that is **stagflation**.

> **Key Term: stagflation**
> A situation in which the price level rises while real GDP falls and unemployment increases, usually caused by a leftward SRAS shift.

Worked AD-AS example:

Suppose the economy starts in short-run equilibrium. Then a war disrupts global oil supply.

- Oil prices rise
- Firms face higher fuel and transport costs
- SRAS shifts left from SRAS₁ to SRAS₂
- Equilibrium moves to a point with higher price level and lower real GDP

So the economy experiences:

- inflation
- lower output
- higher unemployment

That is stagflation.

Common student errors here:

- saying oil prices increase AD because people spend more on gasoline
- saying higher production costs shift AD left
- forgetting to mention both outcomes: **higher price level and lower real GDP**
- describing inflation only, without naming the fall in output

A final exam distinction: if a prompt says “the aggregate price level rises,” that alone does **not** shift SRAS. But if it says “expected inflation rises” or “input prices rise,” that **does** shift SRAS.

## Key Point Checklist

_This article has covered the following key knowledge points:_

- SRAS shows the relationship between the price level and the quantity of real output firms will produce in the short run
- A change in the price level causes movement along SRAS, not a shift
- A change in production costs causes the entire SRAS curve to shift
- Higher per-unit production costs shift SRAS left
- Lower per-unit production costs shift SRAS right
- Higher nominal wages raise firms’ costs and shift SRAS left
- Higher input prices such as oil, energy, and raw materials shift SRAS left
- Higher expected inflation tends to shift SRAS left through wage-setting and cost expectations
- A negative supply shock such as an oil price spike shifts SRAS left
- A leftward SRAS shift raises the price level and lowers real GDP
- Cost-push inflation comes from rising costs, unlike demand-pull inflation which comes from higher AD
- Stagflation is rising inflation with falling output and higher unemployment, usually caused by SRAS shifting left

## Key Terms and Concepts

- short-run aggregate supply (SRAS)
- movement along SRAS
- SRAS shift
- per-unit production cost
- nominal wages
- inflationary expectations
- supply shock
- cost-push inflation
- stagflation


Short-Run Aggregate Supply (SRAS) - Cost changes shift SRAS