Finance and the Economy · Seminar 8 · Macroeconomic factors
The economy starts at A, where AD₁, SRAS₁ and the vertical LRAS all meet. Shift aggregate demand and the economy moves along SRAS₁ to B. Then let wages and input prices adjust: SRAS shifts until output is back at its natural level at C. Questions 4 and 5, from Business Economics (Mankiw, Taylor & Ashwin, ch. 21).
Output (real GDP)
Price level
Where we are
Why SRAS slopes up but LRAS is vertical. With spare capacity firms can raise output without much price pressure; near full employment bottlenecks push prices up sharply. In the long run only the economy’s productive capacity (labour, capital, resources, technology) sets output, so LRAS is vertical at the natural rate, and it shifts right as the economy grows.
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