OCR A Level Economics: Aggregate supply and the AD/AS model (H460) – Revision Notes

These notes condense the OCR A Level Economics (H460) specification, Version 3.0 (June 2026), for first assessment in 2021: Aggregate supply, Aggregate demand and aggregate supply, and the first two outcomes of Macroeconomic equilibrium (Component 2, Macroeconomics). The specification marks no content as AS-only or A-level-only. Read the study guide, then try the practice questions. Useful pages: exam technique, Macroeconomics overview, the course hub, a topic checklist and diagnostics. Numbers are illustrative.

Key definitions

Term	Meaning
Aggregate supply (AS)	Planned real output of all producers at each price level
SRAS	AS when some costs, especially nominal wages, are fixed; slopes upwards
LRAS	Productive capacity once costs and prices have adjusted; depends on factors and technology
Potential output	Output at the economy’s capacity, shown by the LRAS curve
Macroeconomic equilibrium	Price level and real output where AD equals SRAS
Long-run equilibrium	AD, SRAS and LRAS meet at one point
Stagflation	Falling output (or slow growth) together with rising prices
Cost-push shock	A rise in costs that shifts SRAS left

Keynesian versus neo-classical AS

	Neo-classical	Keynesian
LRAS	Vertical at potential output	Flat with spare capacity, rising, then vertical
Wages and prices	Flexible; markets clear	Sticky downwards
Long-run effect of more AD	Higher price level only	Higher output while spare capacity exists
Unemployment	Returns to its natural level	Can persist below full employment

Memory line: neo-classical means the long run is supply; Keynesian means spending can limit output for a long time.

Why AS shifts

SRAS (costs)	LRAS (capacity)
Wages, raw materials, energy	Labour force size and skills
Exchange rate (import costs)	Capital stock, infrastructure
Taxes on firms, subsidies	Technology
Supply shocks	Institutions, competition

• If only the price level changes, you move along AS; you do not shift it.
• An LRAS shift is a shift in potential output and usually moves SRAS too.
• A cost fall that leaves capacity unchanged shifts SRAS only.

Method: answering an AD/AS question

1. Draw price level (vertical) and real output (horizontal). Label AD, SRAS and LRAS.
2. Mark the starting equilibrium, P0 and Y0.
3. Say which curve shifts, in which direction, and why.
4. Mark the new equilibrium, P1 and Y1.
5. State the effect on output (growth), unemployment and inflation.
6. Add the long-run adjustment if the economy was at potential.
7. Evaluate: spare capacity, size, timing, expectations, assumptions.

Worked reminders

Equilibrium from equations. AD: output = 900 − 3P. SRAS: output = 3P + 300. Set equal: 900 − 3P = 3P + 300, so P = 100 and output = 600.

AD rises by 60 (new AD: 960 − 3P): 960 − 3P = 3P + 300 gives P = 110 and output = 630. Output +5.0%, price level +10.0%.

Nominal GDP = price level × real output / 100. Real GDP 1,200 at price level 100 is 1,200 nominal. Later real GDP is 1,248 (+4.0%) at a price level of 104 (+4.0%): nominal is 1,297.92, which is +8.16% = 1.04 × 1.04 − 1.

Cost-push shock (start: AD 900 − 3P, SRAS 3P + 300, equilibrium 100 and 600). Costs rise and SRAS becomes 3P + 240, a shift left of 60 at each price level. Then 900 − 3P = 3P + 240 gives P = 110 and output = 570. Prices +10.0%, output −5.0%. This is stagflation.

Policy response to the shock. To restore output of 600 with demand policy, AD must give 600 at the higher price. On the new SRAS, 600 = 3P + 240 gives P = 120, so AD needs to be 960 − 3P (a rise of 60). Output returns to 600 but the price level is 20.0% above its start. Output is bought with extra inflation. A supply-side policy that returns SRAS to 3P + 300 restores both.

Supply-side gain (SRAS shifts right to 3P + 360). Then 900 − 3P = 3P + 360 gives P = 90 and output = 630. Output +5.0%, prices −10.0%. Both objectives improve at once, which demand policy cannot do when starting from potential output.

Three zones of a Keynesian AS curve.

Zone	Output response to more AD	Price response
Flat (large spare capacity)	Large	None or very small
Rising (bottlenecks appear)	Moderate	Moderate
Vertical (full capacity)	None	Large

Short run to long run after a demand boost (neo-classical, start at potential output).

1. AD shifts right. Prices and output both rise; output is now above potential.
2. Labour and other input markets are tight, so wages and costs rise.
3. SRAS shifts left until output is back at potential.
4. The price level ends higher than it started, with no lasting gain in output.

Phrases that earn evaluation credit.

• “This depends on how much spare capacity exists.”
• “In the short run … but in the long run …”
• “The effect is larger if the shift is permanent.”
• “This assumes wages are sticky, which the neo-classical view disputes.”
• “Policy lags mean the effect may arrive when conditions have changed.”

Direction table.

Shift	Output	Prices	Unemployment
AD right (spare capacity)	Up	Up a little	Down
AD right (at capacity)	Barely changes	Up a lot	Barely changes
SRAS left	Down	Up	Up
SRAS right	Up	Down	Down
LRAS right	Up (potential rises)	Down or stable	Down if jobs are needed

Assumptions and limits of AD/AS

• One price level and one output hide structure, sectors and distribution.
• Curves are ceteris paribus, but AD and AS interact (investment is both).
• Sticky wages justify upward SRAS; flexible wages justify vertical LRAS.
• Potential output is hard to measure.
• Expectations are not modelled; the diagram is static and shows no timing.

Choosing a policy from the data

Symptom	Likely cause	Suitable response
Low output, high unemployment, low inflation	Weak AD	Demand-side expansion
High output, low unemployment, high inflation	AD too high	Restrain AD; raise capacity
Low output and high inflation	SRAS shifted left	Supply-side action to cut costs; demand policy trades inflation for output
Need sustained growth	LRAS too low	Supply-side policies

Evaluate: demand-side is quick but needs spare capacity; supply-side is lasting but slow and costly.

Quick self-test

1. Define aggregate supply.
2. What shape is the neo-classical LRAS curve?
3. Why can the Keynesian AS curve be flat at low output?
4. State two causes of an SRAS shift and two causes of an LRAS shift.
5. A fall in world energy prices: which curve shifts, which way, and what happens to prices and output?
6. Real GDP rises from 1,200 to 1,248. Find the growth rate.
7. A price index rises from 125 to 130. Find the inflation rate.
8. Nominal GDP grows from 1,200 to 1,297.92 when real GDP grows 4.0%. What was inflation?
9. AD: output = 900 − 3P. SRAS: output = 3P + 300. Find equilibrium.
10. In question 9 AD shifts to output = 960 − 3P. Find the percentage change in price level and output.
11. Why does a rise in AD cause little inflation in a deep recession?
12. Give one reason the AD/AS model may mislead.

Answers

1. Total real output that firms plan to produce at each price level in a period.
2. Vertical at potential output.
3. Spare capacity and unemployed resources let firms raise output without raising prices, and wages are sticky.
4. SRAS: wages, energy prices, exchange rate, taxes. LRAS: labour force, skills, capital, technology.
5. SRAS shifts right; price level falls and output rises.
6. 1,248/1,200 − 1 = 4.0%.
7. 130/125 − 1 = 4.0%.
8. 1,297.92/1,200 = 1.0816, and 1.0816/1.04 = 1.04, so inflation was 4.0%.
9. 900 − 3P = 3P + 300, so P = 100, output = 600.
10. P = 110 (+10.0%), output = 630 (+5.0%).
11. Firms have idle capacity, so extra demand is met by more output at similar unit costs.
12. It assumes a single price level, static curves and no expectations, so it cannot show timing or distribution.

Evaluating the model itself

• Strengths: it organises causes and effects of changes in spending and costs on one diagram, and it separates short-run from long-run outcomes.
• Weaknesses: it simplifies a whole economy to two variables, assumes the curves keep their shape, and says little about how long adjustment takes or who gains.
• Best use: as a starting framework, then qualified with evidence about spare capacity, wage behaviour and expectations.

Where marks are usually lost

• Describing a movement along a curve as a shift, or the reverse.
• Drawing a diagram but not using it in the written answer.
• Missing the long-run adjustment when the economy starts at potential output.
• Giving a causal chain with no judgement about how large or how likely the effect is.
• Treating Keynesian and neo-classical as only “demand” and “supply” with no link to wage flexibility.
• Quoting a percentage change from the wrong base.
• Treating a fall in the price level as a fall in inflation, or the reverse.
• Making a policy recommendation without saying what the data show about spare capacity.

Official syllabus

OCR, A Level in Economics (H460) specification, Version 3.0 (June 2026), first assessment 2021: Aggregate supply (AS); Aggregate demand and aggregate supply; first two outcomes of Macroeconomic equilibrium.