AP Macroeconomics
Short Run to Long Run Analysis of the AD/AS Model
There are only four situations that can occur due to shifts in AD or AS. In the short run, there can be a
Recessionary Gap caused by a decrease in AD or AS (Negative Supply/Demand Shocks) or an Inflationary Gap caused by
an increase in AD or AS (Positive Supply/Demand Shocks). What you need to know is that these initial shifts occur in the
short run. What will happen in the long run? Read the following shifts in the AD/AS model, and model the corresponding
changes on the AD/AS graph.
Decrease in AD
Short Run
a. Output (rGDP) will fall due to the fact that firms
must reduce labor to cut costs and remain
competitive.
b. Price level will fall, but only slightly, because
since firms cannot cut wages (sticky ones), they
cannot reduce their prices very much
c. Unemployment will increase as firms reduce
their work forces to cut costs and remain
competitive
Long Run
d. SRAS shifts to the right, because the high
unemployment resulting from (c) in the short
run causes the wage rate to fall because
workers who are unemployed for long periods
of time are willing to accept lower wages
e. The new lower AD and the new SRAS will occur
at the full-employment level once wages have
fallen and SRAS has shifted down and to the
right
Things to Consider

Unemployment decreases and returns to the
Natural Rate of Unemployment (NRU), because
the lower prices achieved at the lower wage
rate increased the quantity of national output
demanded

Workers’ nominal wages are lower, since they
were willing to accept lower wages rather than
remaining unemployed. Real wages, however,
are at the same level they were before the fall
in AD since the average price level has fallen
with nominal wage rates!
Gap caused:
AP Macroeconomics
Increase in AD
Short Run
a. Output will increase due to the higher demand
for the nation’s goods and services
b. The price level will rise due to there being more
demand but no change in aggregate supply
c. Unemployment will fall as firms hire more
workers at the same wage rate to meet rising
demand
Long Run
d. SRAS will shift to the left because the
unemployment rate falls below the natural rate
when AD rises, increasing the scarcity of labor
and forcing firms to compete for workers,
driving up the wage rate. Workers will also
demand higher wages due to the increased
price level.
e. The new higher AD curve and the new SRAS will
occur at the full-employment level once wages
have adjusted and SRAS has shifted to the left
Things to consider



Output will return to the full-employment level
because the higher prices caused by the higher
wage rate will reduce the quantity of national
output demanded
Unemployment will increase once again to the
natural rate as a result of the higher wages.
Workers’ nominal wages are higher, since the
shortage of labor drove up the wage rate, but
their real wages are the same as they were
before the increase in AD since the average
price level has also increased.
Gap caused:
AP Macroeconomics
Decrease in AS
Short Run
a. Output will decrease because of the drop in AD
due to the overall increase in price level.
b. The price level will rise due to an increase in the
wage rate, or an increase in the price of a
resource.
c. Unemployment will rise