Figure 1 An economy in long run equilibrium 2 At point 1 in

Figure 1: An economy in long run equilibrium

2. At point \"1\" in Figure 1, what is the relationship between (a) inflation (?) and inflation expectations ( ?^e ); (b) output (Y) and potential output (Y^P); (c) unemployment (U) and the natural rate of unemployment (U_n)?

(a) __________

(b) __________

(c) __________

Inflatiorn Rate LRAS AS AD Aggregate output

Solution

Point \"1\" is at the intersection of aggregate demand curve (AD1), short-run aggregate supply curve (AS1), long-run aggregate supply curve (LRAS).

So, Point \"1\" indicates that economy is in the long-run equilibrium.

(a)

At Point \"1\", inflation equals inflation expectations.

(b)

At Point \"1\", Output (Y) equals potential output (Yp).

(c)

At Point \"1\", Unemployment rate (U) equals the natural rate of unemployment (Un).