AP Macroeconomics
The AS/AD Model
FRQ – 2011 #1; 2011B #1; 2010
#1; 2010B #1; 2009B #1; 2008B
#1; 2007 #1; 2007B #1; 2006 #1;
2006B #1
LRAS – Long run aggregate
supply
• The LRAS curve is a vertical line at an
output level that represents the
quantity of goods and services a
nation can produce over a sustained
period using all of its productive
resources as efficiently as possible.
LRAS = FE = Yf
LRAS – cont.
• Developing more and better resources
or improving technology will shift the
LRAS curve outward, but it will still be
vertical.
• The LRAS curve represents a point on
an economy’s production possibilities
curve.
The AS/AD Model
• “Assume the economy is at equilibrium” of
AS & AD determines current output (GDPR)
and the price level (PL)
PL
LRAS
SRAS
P
AD
YF
GDPR
Full Employment
• Full Employment equilibrium exists where
AD intersects SRAS & LRAS at the same
point.
PL
LRAS
SRAS
P
AD
YF
GDPR
Recessionary Gap
• A recessionary gap exists when equilibrium
occurs below full employment output.
SRAS
PL
LRAS
P
AD
Y g YF
a
p
GDPR
Inflationary Gap
• An inflationary gap exists when equilibrium
occurs beyond full employment output.
PL
LRAS
SRAS
P
AD
YF Y
g
a
p
GDPR
Changes (Δ) in AD
• Δ Consumption (C)
– C↑ .: AD  .: GDPR↑ & PL↑ .: u%↓ & π%↑
– C↓ .: AD  .: GDPR↓ & PL↓ .: u%↑ & π%↓
• Δ Gross Private Investment (IG)
– IG↑ .: AD  .: GDPR↑ & PL↑ .: u%↓ & π%↑
– IG↓ .: AD  .: GDPR↓ & PL↓ .: u%↑ & π%↓
• Δ Government Spending (G)
– G↑ .: AD  .: GDPR↑ & PL↑ .: u%↓ & π%↑
– G↓ .: AD  .: GDPR↓ & PL↓ .: u%↑ & π%↓
• Δ Net Exports (XN)
– XN↑ .: AD  .: GDPR↑ & PL↑ .: u%↓ & π%↑
– XN↓ .: AD  .: GDPR↓ & PL↓ .: u%↑ & π%↓
Increase in AD
LRAS
PL
SRAS

P

P1
AD1
AD

Y
YF
GDPR
C↑, IG↑, G↑ and/or XN↑ .: AD  .: GDPR↑ & PL↑ .: u%↓ & π%↑
Decrease in AD
LRAS
PL
SRAS

P

P1
AD
AD1

YF
Y
GDPR
C↓, IG↓, G↓ and/or XN↓ .: AD  .: GDPR↓ & PL↓ .: u%↑ & π%↓
Changes (Δ) in SRAS
• Δ Input Prices
– Input Prices↓ .: SRAS  .: GDPR↑ & PL↓ .: u%↓ & π%↓
– Input Prices↑ .: SRAS  .: GDPR↓ & PL ↑ .: u%↑ & π%↑
• Δ Productivity
– Productivity↑ .: SRAS  .: GDPR↑ & PL↓ .: u%↓ & π%↓
– Productivity↓ .: SRAS  .: GDPR↓ & PL ↑ .: u%↑ & π%↑
• Δ Legal-Institutional Environment
– Deregulation .: SRAS  .: GDPR↑ & PL↓ .: u%↓ & π%↓
– Regulation .: SRAS  .: GDPR↓ & PL ↑ .: u%↑ & π%↑
Increase in SRAS
SRAS
LRAS
PL
SRAS1

P

P1
AD

Y
YF
GDPR
Input Prices↓, Productivity↑, and/or Deregulation
.: SRAS  .: GDPR↑ & PL↓ .: u%↓ & π%↓
Decrease in SRAS
SRAS1
LRAS
PL
SRAS

P

P1
AD

Y1
YF
GDPR
Input Prices↑, Productivity↓, and/or Regulation
.: SRAS  .: GDPR↓ & PL↑ .: u%↑ & π%↑
[“bad news” – job losses; “bad news” – inflation]
LRAS
AD
10%
2.
1.
Inflating
PL1
AS2
AS1
The economy
is
stagnating
but
inflating
Stagnating
10% Y*
“Stagflation”
AS / AD Summary
• ΔC, ΔIG, ΔG, and/or ΔXN = Δ AD
– AD  .: GDPR↑ & PL↑ .: u%↓ & π%↑
– AD  .: GDPR↓ & PL↓ .: u%↑ & π%↓
• Δ Input Prices, Δ Productivity,
and/or Δ Regulation = Δ SRAS
– SRAS  .: GDPR↑ & PL↓ .: u%↓ & π%↓
– SRAS  .: GDPR↓ & PL ↑ .: u%↑ & π%↑
• The AS/AD Model is the most important
graph in AP Macroeconomics.
• KNOW IT!!!
AD-AS Model Practice
Questions
Use an appropriately labeled AD-AS
model to illustrate the impact of
each of the following events on
price level, output, and
unemployment.
Practice Question #1
• Assume the economy is in equilibrium at full
employment. If government spending (G) increases
due to an outbreak of war, what is the impact of the
spending on price level, output, and unemployment?
• What economic condition or problem results?
Price
Level
LRAS
SRAS
AD
____ ____
____ Price Level
PL2
PLF
____ Output
AD2
____ Unemployment
Problem:
AD1
YF Y2
Real GDP (GDPR)
Practice Question #2
• Assume the economy is in equilibrium at full
employment. If consumer indebtedness rises,
what is the impact of the indebtedness on the
price level, output, and unemployment?
• What economic condition or problem results?
Price
Level
LRAS
SRAS
AD
____ ____
____ Price Level
PLF
____ Output
PL2
____ Unemployment
Problem:
AD2
Y2
YF
AD1
Real GDP (GDPR)
Practice Question #3
• Assume the economy is in equilibrium at full employment. If
OPEC restricts the supply of oil and raises energy costs across
the economy, what is the impact of the higher production
costs on price level, output, and unemployment?
• What economic problem/condition results?
Price
Level
LRAS
SRAS2
SRAS1
AS
____ ____
____ Price Level
PL2
PLF
____ Output
____ Unemployment
Problem:
AD
Y2 YF
Real GDP (GDPR)
1970’s Gas Crisis
Practice Question #4
• Assume the economy is in a recession. If
government reduces personal income taxes, what is
the impact of the tax cut on price level, output, and
unemployment?
• What economic condition may result?
LRAS
Price
SRAS
____ AD
____
Level
____ Price Level
PLF
____ Output
PL1
____ Unemployment
Condition:
AD1
Y1
YF
AD2
Real GDP (GDPR)
Practice Question #5
• Assume the economy is overheated and experiencing
serious demand-pull inflation. If the FED increases interest
rates by reducing the money supply, what will be the
impact of the FED action on the price level, output, and
unemployment?
• What problem or condition may result?
Price
Level
LRAS
SRAS
AD
____ ____
PL1
____ Price Level
PLF
____ Output
AD1
____ Unemployment
Condition:
AD2
YF Y1
Real GDP (GDPR)
Practice Question #6
• Assume the economy is in equilibrium at full
employment. If productivity increases due to
technological developments, what is the impact of
the increased productivity on the price level,
output, and unemployment?
Price
Level
LRAS
SRAS1
SRAS2
PLF
____ AS
____
____ Price Level
____ Output
PL2
____ Unemployment
AD
YF Y2
Real GDP (GDPR)
AC/DC MACROECONOMICS
• http://www.youtube.com/watch?v=p
OQWm4hS5uI
• http://apcentral.collegeboard.com/a
pc/public/repository/_ap05_frq_macro
_b_45732.pdf
• http://apcentral.collegeboard.com/a
pc/public/repository/_ap05_frq_macro
_econo_45731.pdf
Practice AP FRQ’s
• http://apcentral.collegeboard.com/a
pc/public/repository/ap04_frq_macro_
36231.pdf
• http://apcentral.collegeboard.com/a
pc/public/repository/ap03_frq_econ_
macro_23130.pdf