Supply shock

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A supply shock is an event that suddenly changes the price of a commodity or import services or service. It may be caused by a sudden increase or decrease in the supply of a particular good. This sudden change affects the equilibrium price. A negative supply shock (sudden supply decrease) will raise prices and shift the aggregate supply curve to the left. A negative supply shock can cause stagflation due to a combination of raising prices and falling output. A positive supply shock (an increase in supply) will lower the price of said good and shift the aggregate supply curve to the right. A positive supply shock could be an advance in technology (a technology shock) which makes production more efficient, thus increasing output. An example of a negative supply shock is the increase in oil prices during the 1973 energy crisis.

Technical Analysis

The diagram to the right demonstrates a negative supply shock; The initial position is at point A, producing Y1 quantity, at P1 prices. Then there is a supply shock, this has an adverse effect on aggregate supply, the supply curve shifts left (from AS1 to AS2), while the demand curve stays in the same position. The intersection of the supply and demand curves has now moved and the equilibrium is now point B, quantity has been reduced to Y2, while prices have been increased to P2.



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