Use the AS/AD framework to depict an economy that is a) in equilibrium, and b) operating at full employment.

A. Your graph, when complete, should contain the following pieces of information:

1. The correct labels on the axes.

2. The AD, SRAS and LRAS curves—labeled as AD(o), SRAS(o), and LRAS(o).

3. The economy’s current level of Potential Real GDP, labeled as QP.

4. The current equilibrium Price Level, labeled as PL(o).

B. Now suppose that the Business Sector decides to increase the Price Level it desires to charge, at any and every given level of production:

1. Illustrate the results of this event in your graph. Label any new curve(s) you draw with the subscript “1.”

2. Label the new equilibrium Price Level as PL(1).

3. Label the new equilibrium level of Real GDP as Q(1).

C. Now that your graphical depiction of this event is complete, use it to do the following: Consider the 8 outcomes below, and select all that apply (i.e., are correct) in the short run:

1. The economy’s Unemployment Rate rises above the Natural Rate.

2. The Natural Rate of Unemployment does not change.

3. The level of Potential Real GDP rises.

4. The level of Exports rises.

5. The economy experiences inflation.

6. The economy’s Unemployment Rate falls below the Natural Rate.

7. The levels of Real GDP and total employment both go up.

8. Unit Labor Costs fall.