AP Macroeconomics

## Learning Outcomes

- Understand why the economy’s current short-run position is always shown on the short-run Phillips curve
- Identify what a point on the SRPC represents in terms of inflation and unemployment
- Explain the difference between being on the SRPC and being on the LRPC
- Distinguish movement along the SRPC from a shift of the SRPC
- Apply aggregate demand, expected inflation, and supply shocks to Phillips curve graphs
- Interpret whether the economy is left or right of the natural rate of unemployment

## AP Macroeconomics Syllabus

For the AP Macroeconomics, you are expected to understand how the economy is located on the Phillips curve in short-run and long-run analysis, with a focus on the following syllabus points:

- Know that the economy’s current short-run equilibrium is always plotted as a point on a short-run Phillips curve
- Identify the axes correctly: inflation rate on the vertical axis and unemployment rate on the horizontal axis
- Explain that the SRPC is downward sloping and the LRPC is vertical at the natural rate of unemployment
- Understand that a point left of the LRPC means unemployment is below the natural rate, while a point right of the LRPC means unemployment is above it
- Distinguish movement along the SRPC, caused by changes in aggregate demand, from shifts of the SRPC, caused by expected inflation or supply shocks
- Know that long-run equilibrium occurs where an SRPC intersects the LRPC
- Understand that there is no permanent long-run tradeoff between inflation and unemployment

## Test Your Knowledge

_Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, look more closely at that area during your revision._

1. Why is the economy’s current position usually drawn on the SRPC rather than only on the LRPC?
2. What does a point on a short-run Phillips curve represent?
3. How does an increase in aggregate demand affect a point on the SRPC?
4. What causes the SRPC to shift instead of causing movement along it?
5. If unemployment is above the natural rate, should the point be left or right of the LRPC?

## Introduction

The Phillips curve is one of the core AP Macroeconomics graphs because it links two outcomes students already study in other models: **inflation** and **unemployment**. The exam often tests not just the shape of the curve, but where the economy should be plotted at a given moment and why.

A very common mistake is to place the economy only on the long-run Phillips curve. That is not how AP Macro usually frames current conditions. In short-run analysis, the economy is always shown as a point on a **short-run Phillips curve**. The long-run Phillips curve is used to mark the **natural rate of unemployment**, not every current outcome.

> **Key Term: short-run Phillips curve (SRPC)**
> A downward-sloping curve showing the short-run relationship between the inflation rate and the unemployment rate.

### What a point on the SRPC actually means

A point on the SRPC represents one specific combination of the **inflation rate** and the **unemployment rate** in the short run. That is the first rule to lock in. If the economy currently has 4% inflation and 6% unemployment, that outcome is plotted as one point on an SRPC.

Why must it be on an SRPC? Because the SRPC is the graph that records current short-run inflation-unemployment combinations. The economy cannot be “off the graph.” At any moment, it has some inflation rate and some unemployment rate, so it must sit somewhere on a short-run Phillips curve.

> **Key Term: inflation rate**
> The percentage increase in the overall price level over time.
>
> **Key Term: unemployment rate**
> The percentage of the labor force that is unemployed and actively seeking work.

This matters because AP questions often give you a current condition and ask where to plot it. If they describe the economy as having low unemployment and high inflation, your point belongs on the upper-left part of an SRPC. If they describe high unemployment and low inflation, your point belongs on the lower-right part of an SRPC.

The downward slope reflects the short-run tradeoff. When aggregate demand rises and firms produce more, they hire more workers, so unemployment falls. But that extra demand also puts upward pressure on prices, so inflation rises. The reverse happens when aggregate demand falls.

This is why the curve slopes downward rather than upward. Lower unemployment is associated with higher inflation in the short run, and higher unemployment is associated with lower inflation.

> **Test Tip:** On a Phillips curve graph, always label the axes first: inflation on the vertical axis, unemployment on the horizontal axis. A surprising number of errors start with reversed axes.

### SRPC versus LRPC: where the economy is now versus where it returns

Students often mix up the short-run Phillips curve and the long-run Phillips curve because both appear on the same graph. Their jobs are different.

The **SRPC** shows the economy’s current short-run inflation-unemployment combination.

The **LRPC** shows the **natural rate of unemployment**, which is the unemployment rate the economy returns to in the long run.

> **Key Term: long-run Phillips curve (LRPC)**
> A vertical curve at the natural rate of unemployment showing that there is no long-run tradeoff between inflation and unemployment.
>
> **Key Term: natural rate of unemployment**
> The unemployment rate consistent with full employment in the long run, including frictional and structural unemployment but not cyclical unemployment.

The LRPC is vertical because, in the long run, unemployment returns to the natural rate even if inflation changes. That is the key long-run message: policy can change inflation permanently more easily than it can change unemployment permanently.

So when is the economy on both curves at once? Only in **long-run equilibrium**.

> **Key Term: long-run equilibrium**
> The situation in which the economy is at the natural rate of unemployment, so the current short-run point lies where the SRPC intersects the LRPC.

If the current unemployment rate equals the natural rate, the economy’s point lies at the intersection of the current SRPC and the LRPC.

If current unemployment is below the natural rate, the point is still on the SRPC, but it lies to the **left** of the LRPC.

If current unemployment is above the natural rate, the point is still on the SRPC, but it lies to the **right** of the LRPC.

Worked example:

Suppose the natural rate of unemployment is **5%**.

- If current unemployment is **3%**, the point is on the SRPC and **left of the LRPC**
- If current unemployment is **5%**, the point is at the **intersection** of the SRPC and LRPC
- If current unemployment is **7%**, the point is on the SRPC and **right of the LRPC**

That left-right logic is easy once you focus on the horizontal axis. Lower unemployment means farther left. Higher unemployment means farther right.

A common student error is saying, “The economy is in equilibrium, so it goes on the LRPC.” That is incomplete. In AP Macro, the economy is in short-run equilibrium all the time in the sense that it has a current inflation-unemployment outcome. But only **long-run equilibrium** places it on the LRPC as well.

> **Test Tip:** If a question says “current equilibrium,” think: plot the current point on the SRPC, then compare it to the LRPC. Do not jump straight to the vertical line.

### Movement along the SRPC: changes in aggregate demand

The most tested Phillips curve distinction is this:

- **Change in aggregate demand** = movement along a given SRPC
- **Change in expected inflation or supply shock** = shift of the SRPC

Start with aggregate demand. If aggregate demand increases, firms expand output in the short run. They need more labor, so unemployment falls. At the same time, more demand pushes prices upward, so inflation rises. On the Phillips curve, the economy moves **up and left** along the existing SRPC.

If aggregate demand decreases, the opposite happens. Output falls, firms need fewer workers, unemployment rises, and inflation falls. On the Phillips curve, the economy moves **down and right** along the existing SRPC.

Worked example:

Suppose the economy starts at point A on an SRPC with:

- inflation = 2%
- unemployment = 6%

Now the Fed uses expansionary monetary policy, increasing aggregate demand.

Step by step:

1. Lower interest rates encourage borrowing and spending
2. Aggregate demand rises
3. Firms increase production in the short run
4. Unemployment falls
5. Inflation rises
6. The economy moves to a new point B on the **same SRPC**

If point B is:

- inflation = 4%
- unemployment = 4%

then the movement is **up and left along the SRPC**.

This is not a shift of the curve because expected inflation and supply conditions have not changed in the setup. Only aggregate demand changed.

### Shifts of the SRPC: expected inflation and supply shocks

Now consider cases where the whole SRPC moves.

If **expected inflation** rises, the SRPC shifts **upward/right**. Why? Because at every unemployment rate, workers and firms now expect more inflation, so actual inflation tends to be higher. The entire inflation-unemployment menu shifts.

If expected inflation falls, the SRPC shifts **downward/left**.

> **Key Term: expected inflation**
> The rate of inflation that households, firms, and workers expect to occur in the future.

Supply shocks also shift the SRPC. A negative supply shock, such as a major rise in oil prices, raises production costs. That tends to increase inflation and reduce output at the same time. Lower output means higher unemployment. So inflation and unemployment can both rise together. That outcome cannot be explained by movement along one SRPC. Instead, the SRPC shifts **right**.

> **Key Term: supply shock**
> A sudden event that changes production costs and shifts short-run aggregate supply, such as a sharp rise in energy prices.

A positive supply shock, such as better productivity or a fall in key input prices, shifts the SRPC **left**. Then inflation and unemployment can both fall together.

This is one reason the Phillips curve is not a simple permanent tradeoff. If supply conditions change, the whole short-run relationship changes.

Here is the clean comparison students need:

- **AD increases** → move up/left along SRPC
- **AD decreases** → move down/right along SRPC
- **Expected inflation rises** → SRPC shifts up/right
- **Expected inflation falls** → SRPC shifts down/left
- **Negative supply shock** → SRPC shifts right
- **Positive supply shock** → SRPC shifts left

Many students say “higher inflation shifts the Phillips curve.” That is too vague. Ask what caused the higher inflation. If it came from stronger aggregate demand, it is a movement along the curve. If it came from higher expected inflation or a supply shock, it shifts the curve.

### How the short run returns to the long run

The last idea links the Phillips curve to the broader AP Macro story.

Suppose aggregate demand increases. In the short run, unemployment falls below the natural rate and inflation rises. So the economy moves up and left along the current SRPC.

But that situation does not last forever. Over time, workers and firms adjust expectations. If inflation stays high, expected inflation rises. Once expected inflation rises, the SRPC shifts right/up. As that happens, unemployment returns to the natural rate on the LRPC, but inflation stays higher than before.

So the full chain is:

1. AD increases
2. economy moves along SRPC to lower unemployment and higher inflation
3. expected inflation rises over time
4. SRPC shifts right/up
5. economy returns to the LRPC
6. long-run result: same unemployment, higher inflation

The reverse happens if AD decreases:

1. AD decreases
2. economy moves along SRPC to higher unemployment and lower inflation
3. expected inflation falls over time
4. SRPC shifts left/down
5. economy returns to the LRPC
6. long-run result: same unemployment, lower inflation

This is why the LRPC is vertical. There is no permanent long-run tradeoff. Policy can push unemployment away from the natural rate only temporarily.

## Key Point Checklist

_This article has covered the following key knowledge points:_

- The economy’s current short-run position is always shown as a point on an SRPC
- A point on the SRPC represents one specific inflation-unemployment combination
- The SRPC is downward sloping because lower unemployment is associated with higher inflation in the short run
- The LRPC is vertical at the natural rate of unemployment
- The natural rate of unemployment is not zero unemployment
- Long-run equilibrium occurs where the SRPC intersects the LRPC
- If unemployment is below the natural rate, the point lies on the SRPC to the left of the LRPC
- If unemployment is above the natural rate, the point lies on the SRPC to the right of the LRPC
- Changes in aggregate demand cause movement along a given SRPC
- Changes in expected inflation shift the SRPC
- Positive and negative supply shocks also shift the SRPC
- There is no permanent long-run tradeoff between inflation and unemployment

## Key Terms and Concepts

- short-run Phillips curve (SRPC)
- inflation rate
- unemployment rate
- long-run Phillips curve (LRPC)
- natural rate of unemployment
- long-run equilibrium
- expected inflation
- supply shock


The Phillips Curve - Economy always lies on SRPC