1. Equilibrium
Equilibrium price and quantity are found where the AD and AS curves intersect.
At any price level above equilibrium sellers are faced with surpluses and are forced to reduce production and price level.
At any price level below equilibrium buyers are faced with shortages and are forced to pay more, encouraging suppliers to produce more.

2. Equilibrium Price Level Short-run aggregate supply Equilibrium A price
Quantity of
Output
Price
Level
Short-run
aggregate
supply
Aggregate
demand A
Equilibrium
price
Equilibrium output

3. Equilibrium
In the short run equilibrium may be above or below the full employment rate. In other words AD and AS may not intersect at the LRAS.
In the long run equilibrium will be at the LRAS, because in the long-run short run AS will have adjusted so that short-run aggregate output is equal to the potential output.

4. Short-run Equilibrium Below Full Employment Potential Output (recessionary gap)
LRAS
Price Level AS
PL1 AD Q1 FE
RGDP

5. Short run Equilibrium Above Full Employment Potential Output (inflationary gap)
LRAS
Price Level AS
PL1 AD Q1 FE
RGDP

6. Changes in AD
Increases in AD cause the price level and the level of output and employment to rise.
This rise in price level is known as demand-pull inflation.
Decreases in AD cause the price level and the level of output and employment to fall.
Increases or decreases in AD are known as Demand Shocks

7. Increases in AD
LRAS
Price Level AS
PL2
PL1
AD2 AD Q1 FE
,Q2
RGDP

8. Increases in AS have a positive effect on both price level and output.
Changes in AS
Increases in AS have a positive effect on both price level and output.
When AS shifts right, price levels fall or stabilize, but output increases.

9. Increases in AS
LRAS
Price Level AS
AS1 PL
PL1 AD FE Q1
RGDP

10. Changes in AS
Decreases in AS have a negative effect on both price level and output.
When AS shifts left, price levels rise, but output falls.
This is known as cost-push inflation or stagflation.
Any unexpected change in AS whether positive or negative is known as a supply shock.

11. Decreases in AS (stagflation)
LRAS
AS2
Price Level AS
PL2
PL1 AD Q2 Q1 FE
RGDP

12. Self-Correcting Nature of Economy
In the long-run aggregate supply will shift so that equilibrium will be at the long-run level of output
This happens as nominal wages and other input prices adjust to meet the current price level

13. Short run Equilibrium Below Full Employment -Lower price levels lead to lower wages, shifting SRAS right
LRAS
Price Level AS
AS2
PL1
PL2 AD Q1 FE
,Q2
RGDP

14. Short run Equilibrium Above Full Employment -Higher price levels lead to higher wages, shifting SRAS left
LRAS
AS2
Price Level AS
PL1
AD1 FE Q1
RGDP