Short-Run Equilibrium in AP Macroeconomics

AD crosses SRAS, and LRAS doesn't have to be there

On the AD-AS graph, the price level goes on the vertical axis and real GDP on the horizontal. Short-run equilibrium is wherever AD and SRAS intersect. At that point, the total output buyers want equals the total output firms are willing to produce at that price level.

Long-run equilibrium adds one more condition. AD and SRAS have to cross at a point that also sits on the vertical long-run aggregate supply (LRAS) curve, so real output equals full-employment output. Every long-run equilibrium is also a short-run equilibrium. A short-run equilibrium can also be off the LRAS line.

This term sits in Unit 3, National Income and Price Determination. Topic 3.5 defines both kinds of equilibrium, and Topic 3.7, Long-Run Self-Adjustment, asks how the economy moves from a short-run equilibrium sitting in a gap back to long-run equilibrium when the government takes no policy action.

Reading an output gap off the short-run point

Once you've marked short-run equilibrium, compare its output to full-employment output (where LRAS is).

If short-run output is to the right of LRAS, the economy has a positive output gap, also called an inflationary gap. Firms are producing more than the economy can sustain, so unemployment is below the natural rate.

If short-run output is to the left of LRAS, there's a negative output gap, or recessionary gap. Unemployment is above the natural rate. Exam prompts sometimes give you only unemployment numbers, like an actual rate above the natural rate. That tells you the short-run equilibrium is left of LRAS, even though the prompt never says "recessionary gap."

Worked shock: consumer confidence jumps

Start in long-run equilibrium at full-employment output of $10 trillion and a price level of 100. Then consumer confidence rises, households spend more, and AD shifts right.

The new short-run equilibrium is where the new AD crosses the original SRAS, say at $10.4 trillion and a price level of 105. Output and the price level both rose. Output is now above full employment, so this is an inflationary gap with unemployment below the natural rate.

That point doesn't last. With labor scarce, workers bargain for higher nominal wages. Higher wages raise production costs, so SRAS shifts left. It keeps shifting until it crosses the new AD on the LRAS line, say at $10 trillion and a price level of 110.

Compared to the short-run equilibrium, the long-run result has a higher price level and lower output. Compared to where the economy started, output is the same and only the price level is higher. A multiple-choice question about a shock like this one can ask for either comparison, so read which equilibrium the question is comparing to.

Drawing it for Question 1 and catching the wrong answers

A Question 1 (Long) prompt may give an economy with an output gap and ask for a correctly labeled AD-AS graph. Question 2 and Question 3 (Short) can do a smaller version of the same move. A full-credit graph includes:

• Axes labeled "Price level" and "Real GDP" (or real output)
• AD, SRAS, and a vertical LRAS, each labeled
• The equilibrium price level and output marked on the axes where AD meets SRAS
• That output clearly placed left or right of full-employment output, matching the prompt

Follow-up parts then ask what happens "in the long run" or "with no policy action." The adjustment happens through SRAS. Flexible wages and prices shift SRAS until output returns to full employment and unemployment returns to the natural rate.

The common mistakes come from treating the short-run point as permanent or moving the wrong curve. Saying long-run output stays higher after an AD increase is wrong. Shifting AD back on its own during self-adjustment is wrong, since AD only moves again if something new hits it, like a policy action. Shifting LRAS is also wrong. LRAS moves only when full-employment output itself changes, which signals economic growth or decline, and self-adjustment doesn't do that.