Macroeconomics a Supply Shock Is Essay

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An adverse supply shock would be the opposite. The above Toyota example is a temporary supply shock, one from which the company has probably recovered at this point. But an adverse supply shock is more permanent in nature. Aggregate supply decreases permanently, and this increased scarcity is reflected in higher prices. For the shock to be permanent, there must be barriers to firms increasing production. If the firms in the industry were able to increase production in order to meet the new high price the good would simply return to a state of equilibrium. Instead, something must constrain the ability of firms in the industry to respond in that way. If a key input becomes scarce, that would be an example of an adverse supply shock. Often, this involves the depletion of a key natural resource.

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Over time the market may adjust to the adverse supply shock in any number of different ways. For example, consumers may respond to the higher price by lowering their consumption. The oil crisis in the 1970s resulted in small cars becoming more popular, decreasing per capita oil consumption. Alternately, the supply shock and higher price can be met with new substitutes, which also serve to bring the aggregate demand back down. It is possible, however, that the aggregate demand will remain high. This means that the supply shock simply leaves unfulfilled demand in the market for the good in question. These negative consequences are common with supply shocks, and as a result most people view supply shocks as generally negative.

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