Pearson Edexcel · A-Level · Economics B
Course version: 9EB0 · Version from Sept 2015
D) Impact of changes in AD and/or AS on inflation and unemployment
Full specification wording
The AD/AS model: d) Impact of changes in AD and/or AS on inflation and unemployment
Changes in aggregate demand (AD) and aggregate supply (AS) directly impact an economy's inflation and unemployment rates.
Checked against the Pearson Edexcel 9EB0 specification (opens in a new tab) on .
- Point 4 of 5
- 4 key terms
Study notes
From the checked teaching notes for this specification point.
The idea
Changes in aggregate demand (AD) and aggregate supply (AS) directly impact an economy's inflation and unemployment rates. An outward shift in AD, assuming upward-sloping AS, increases real output, which reduces cyclical unemployment as firms hire more workers, but it also raises the general price level, causing demand-pull inflation. Conversely, an inward shift in short-run AS, perhaps due to rising raw material costs, reduces real output and raises prices, creating a scenario of stagflation where both unemployment and cost-push inflation increase simultaneously. An outward shift in long-run AS expands the economy's productive capacity, allowing for higher employment and economic growth while putting downward pressure on the price level.
What earns the marks
- An outward shift in AD increases real GDP, which lowers unemployment but increases the price level, causing demand-pull inflation.
- An inward shift in AD decreases real GDP, leading to higher cyclical unemployment and a lower price level or disinflation.
- An inward shift in SRAS causes cost-push inflation and reduces real GDP, leading to higher unemployment, a situation known as stagflation.
- An outward shift in LRAS increases real GDP, reducing unemployment while lowering the general price level.
Common mistakes and how to put them right
Stating that an inward shift in SRAS only causes inflation.
Put it right: An inward shift in SRAS causes both cost-push inflation and a fall in real output, which increases unemployment.
Assuming AD shifts always cause proportional changes in inflation and unemployment.
Put it right: The impact of an AD shift depends on the elasticity of the AS curve and the amount of spare capacity in the economy.
Confusing demand-pull and cost-push inflation.
Put it right: Demand-pull inflation is caused by outward shifts in AD, whereas cost-push inflation is caused by inward shifts in SRAS.
Exam tips
- Draw clear AD/AS diagrams to support your explanations of how shifts affect the macroeconomic objectives of inflation and unemployment.
- Explicitly state whether a shift in AS is short-run (affecting costs) or long-run (affecting productive capacity) when analysing impacts.
- Use the term stagflation when describing the simultaneous increase in inflation and unemployment resulting from an inward shift in SRAS.
Try the lesson
The start of the The AD/AS model: d) Impact of changes in AD and/or AS on inflation and unemployment lesson, made from checked teaching notes for this specification point.
Have a go first
Assuming a downward-sloping aggregate demand curve and an upward-sloping short-run aggregate supply curve, what is the most likely effect of a significant decrease in aggregate demand?
Listen
Changes in aggregate demand (AD) and aggregate supply (AS) directly impact an economy's inflation and unemployment rates. An outward shift in AD, assuming upward-sloping AS, increases real output, which reduces cyclical unemployment as firms hire more workers, but it also raises the general price level, causing demand-pull inflation. Conversely, an inward shift in short-run AS, perhaps due to rising raw material costs, reduces real output and raises prices, creating a scenario of stagflation where both unemployment and cost-push inflation increase simultaneously. An outward shift in long-run AS expands the economy's productive capacity, allowing for higher employment and economic growth while putting downward pressure on the price level. A strong answer earns marks for these points. An outward shift in AD increases real GDP, which lowers unemployment but increases the price level, causing demand-pull inflation. An inward shift in AD decreases real GDP, leading to higher cyclical unemployment and a lower price level or disinflation. An inward shift in SRAS causes cost-push inflation and reduces real GDP, leading to higher unemployment, a situation known as stagflation. An outward shift in LRAS increases real GDP, reducing unemployment while lowering the general price level. A common slip: Stating that an inward shift in SRAS only causes inflation. Instead, an inward shift in SRAS causes both cost-push inflation and a fall in real output, which increases unemployment. Exam tip: Draw clear AD/AS diagrams to support your explanations of how shifts affect the macroeconomic objectives of inflation and unemployment.
Key words
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Demand-pull inflation
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Cost-push inflation
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Stagflation
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Cyclical unemployment
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See every definition
- Demand-pull inflation
- Inflation caused by an outward shift in aggregate demand, which raises the general price level.
- Cost-push inflation
- Inflation caused by an inward shift in short-run aggregate supply, perhaps due to rising raw material costs.
- Stagflation
- A scenario where both unemployment and cost-push inflation increase simultaneously following an inward shift in short-run aggregate supply.
- Cyclical unemployment
- Unemployment that falls when an outward shift in aggregate demand increases real output, as firms hire more workers.
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