THE ECONOMICS OF MONEY,BANKING, AND FINANCIAL MARKETS 658

626

PA R T V I I Monetary Theory
natural rate, the short-run aggregate supply curve shifts to the left; when
aggregate output is below the natural rate, the short-run aggregate supply
curve shifts to the right.
Workers and firms care about wages in real terms that
is, in terms of the goods and services that wages can buy. When the price level
increases, a worker earning the same nominal wage will be able to buy fewer
goods and services: A worker who expects the price level to rise will thus demand
a higher nominal wage to keep the real wage from falling. For example, if Chuck
the Construction Worker expects prices to increase by 5%, he will want a wage
increase of at least 5% (more, if he thinks he deserves an increase in real wages).
Similarly, if Chuck s employer knows that the houses he is building will rise in
value at the same rate as inflation (5%), his employer will be willing to pay Chuck
5% more. An increase in the expected price level leads to higher wages, which in
turn raise the costs of production, lower the profit per unit of output at each price
level, and shift the aggregate supply curve to the left (see Figure 24-3). Therefore,
a rise in the expected price level causes the aggregate supply curve to
shift to the left; the greater the expected increase in price level (that is, the
higher the expected inflation), the larger the shift.

EXPECTED PRICE LEVEL

Suppose that Chuck and his fellow construction workers decide to
strike and succeed in obtaining higher real wages. This wage push will then raise
the costs of production, and the aggregate supply curve will shift leftward. A successful wage push by workers will cause the aggregate supply curve to
shift to the left.

WAGE PUSH

Changes in technology and in the supply of raw materials (called supply shocks) can also shift
the aggregate supply curve. A negative supply shock, such as a reduction in the
availability of raw materials (like oil), which raises their price, increases production costs and shifts the aggregate supply curve leftward. A positive supply shock,
such as unusually good weather that leads to a bountiful harvest and lowers the cost
of food, will reduce production costs and shift the aggregate supply curve rightward. Similarly, the development of a new technology that lowers production costs,
perhaps by raising worker productivity, can be considered a positive supply shock
that shifts the aggregate supply curve to the right.
The effect on the aggregate supply curve of changes in production costs
unrelated to wages (referred to as aggregate supply shocks) can be summarized
as follows: A negative supply shock that raises production costs shifts the
aggregate supply curve to the left; a positive supply shock that lowers
production costs shifts the aggregate supply curve to the right.4 As a study
aid, factors that shift the short-run aggregate supply curve are listed in Table 24-2.

CHANGES IN PRODUCTION COSTS UNRELATED TO WAGES

4

Developments in the foreign exchange market can also shift the aggregate supply curve by changing
domestic production costs. As discussed in more detail in Chapter 19, an increase in the value of the
dollar makes foreign goods cheaper in Canada. The decline in prices of foreign goods and hence foreign factors of production lowers Canadian production costs and thus raises the profit per unit of output at each price level in Canada. An increase in the value of the dollar therefore shifts the aggregate
supply curve to the right. Conversely, a decline in the value of the dollar, which makes foreign factors
of production more expensive, shifts the aggregate supply curve to the left.