Imagine giving everyone a 10% raise — and raising every price 10% on the same morning. Who's better off? Nobody. Nothing real changed. That thought experiment is the key to the biggest plot twist in macro: the inflation-unemployment tradeoff, so reliable in the short run, is an illusion powered by surprise. Once workers and firms expect the inflation, they build it into wages and prices, and the stimulus buys nothing but faster-rising numbers. The graph of that hard truth is a vertical line at the natural rate — the long-run Phillips curve — and the story of how economies travel back to it is the most elegant multi-step narrative on the AP exam.
The long-run Phillips curve (LRPC) is vertical at the natural rate of unemployment (NRU). In the long run there is no tradeoff between inflation and unemployment: the economy can have 2% inflation or 10% inflation at the same natural unemployment rate. Inflation is a choice about money; unemployment's resting point is set by real factors (frictional + structural forces).
This is the Phillips-curve twin of Lesson 7's vertical LRAS — same truth, different axes: money and demand management cannot permanently change real variables. (The quantity theory from Lesson 4 is the same anchor: sustained money growth ends up in P, not Y.)
The LRPC shifts only when the NRU itself changes: better job-matching technology or retraining (NRU ↓ → LRPC left); rising structural mismatch or policies that slow job search (NRU ↑ → LRPC right). Nothing about inflation, money, or demand moves it.
The engine is inflation expectations (Lesson 12's third shifter, now the star). Trace the classic stimulus cycle, starting at full employment with 2% inflation:
Repeat the stimulus, repeat the ratchet. The short-run tradeoff exists only while actual inflation outruns expected inflation. At any point ON the LRPC, actual = expected.
To cut entrenched inflation, the central bank tightens: AD left → slide down-right along the current SRPC → unemployment rises above the NRU (the sacrifice: lost output and jobs per point of inflation removed). As expectations fall, the SRPC shifts down, and the economy returns to the NRU at lower inflation. History's exhibit: the early-1980s disinflation, which broke double-digit U.S. inflation at the cost of a severe recession.
Credibility is the discount coupon: the faster people believe the low-inflation commitment, the faster the SRPC falls, and the smaller the unemployment bill. Under strongly rational expectations with full credibility, disinflation could in principle be nearly painless; with adaptive expectations, the pain is the tuition.
Apply It: An economy sits at its NRU with 7% inflation, fully expected. (1) Can the central bank push unemployment below the NRU permanently? (2) What does it cost to get inflation to 3%? → (1) No — only temporarily, until expectations catch up; the long run returns to the NRU at even higher inflation. (2) A period of unemployment above the NRU while expectations (and the SRPC) come down.
[GRAPH: SRPC and LRPC together — the full apparatus
X-axis: Unemployment rate (%)
Y-axis: Inflation rate (%)
Curve 1: LRPC, vertical at the NRU (5%)
Curve 2: SRPC₁, downward-sloping, crossing the LRPC at point A (5%, 2%)
Shift sequence (stimulus cycle):
1. Movement along SRPC₁ from A to B (3.5%, 5%) — AD expansion
2. Expectations adjust → SRPC₁ shifts up to SRPC₂
3. Economy at point C (5%, 5%) — back on the LRPC, higher inflation
Reading: every long-run resting point is ON the vertical line; the SRPC that
passes through it corresponds to the currently expected inflation rate]
AP labeling requirements: both curves labeled (SRPC, LRPC); LRPC explicitly vertical at the NRU; long-run equilibrium = the point where the SRPC crosses the LRPC. FRQs love the three-beat sequence — label points A → B → C and narrate each move (demand slide, expectation shift, long-run return). The companion fact: on the LRPC, actual inflation = expected inflation.
1. D. Long-run unemployment gravitates to the natural rate whatever inflation runs at — no lasting tradeoff, hence vertical. A: they move inversely only in the short run. B: long-run = flexible prices. C: exactly what the LRPC denies. E: expectations DO adjust — that's why the curve is vertical.
Fix: Vertical LRPC = real variables (unemployment) are independent of nominal choices (inflation) in the long run.
2. E. On the LRPC, no one is fooled: actual = expected. A: any fully expected rate works. B/C: gaps between actual and expected are precisely the short-run condition. D: expectations drive wage bargaining.
Fix: Long-run equilibrium test: is actual inflation equal to expected? If yes, you're on the LRPC.
3. B. Unexpected stimulus slides the economy up-left along the current SRPC: UE < NRU, inflation up. A: the LRPC ignores money. C: the SRPC shifts up later, not down now. D: wrong direction. E: the short run responds — surprises work temporarily.
Fix: Surprise demand policy = movement along the SRPC first; the shift comes later.
4. C. Updated expectations raise wage demands → SRPC up → economy back at NRU with higher inflation. A: the NRU didn't change. B: expectations rose. D: below-NRU positions are temporary by nature. E: inflation ratchets up, not back.
Fix: The middle step is always: expectations adjust → SRPC shifts toward the new inflation reality.
5. A. Real side: unchanged (NRU). Nominal side: permanently higher inflation. B/C: no permanent real gains from demand policy. D: both improved is the opposite. E: the economy returns TO the natural rate, not above it.
Fix: Stimulus at full employment = temporary real boost, permanent nominal cost.
6. C. Adaptive = backward-looking: tomorrow's forecast is yesterday's experience. A/B: those describe rational expectations. D: nobody assumes zero by default. E: curves don't forecast.
Fix: Adaptive looks back; rational looks everywhere, including at the central bank's announcements.
7. E. If the expansion is announced and believed, expectations (and the SRPC) jump immediately — inflation rises with little real effect. A/C: those require fooling people. B: LRPC is untouched by policy. D: expansion raises inflation.
Fix: Under rational expectations, only unanticipated policy moves real variables.
8. D. Less frictional unemployment lowers the NRU → LRPC left. A/C/E: nominal/demand events never move it. B: credibility helps disinflation cheaply but doesn't change the natural rate.
Fix: LRPC moves only with the NRU: structural and frictional fundamentals, nothing nominal.
9. B. Tightening slides the economy down-right along the SRPC: unemployment temporarily above natural — the sacrifice. A: the LRPC stays put. C: expectations fall gradually (unless perfectly credible). D: opposite. E: potential output survives; the loss is temporary.
Fix: Disinflation's bill: above-NRU unemployment until expectations (and the SRPC) come down.
10. A. The unemployment cost shrinks as expectations fall faster — credibility is the whole game. B/D/E: fiscal balances, trade, and reserve rules aren't the mechanism. C: LRAS is vertical; its "slope" isn't a variable.
Fix: Sacrifice size ∝ stubbornness of expectations; credibility is the discount.
11. D. Money neutrality = nominal actions can't move real variables in the long run = vertical LRPC (and vertical LRAS). A/B/C: short-run features or transitional moves. E: money growth doesn't lower the NRU.
Fix: The two vertical curves — LRAS and LRPC — are the same neutrality statement in two graphs.
12. C. At the NRU with fully expected inflation, the economy is in long-run equilibrium — even ugly inflation rates can be equilibrium rates. A/B: unemployment equals natural, so neither gap exists. D: the SRPC still slopes down; it just sits high. E: disinflation is available at the usual temporary cost.
Fix: Long-run equilibrium is about expectations matching reality at the NRU — not about inflation being low.
13. E. Keeping unemployment below the NRU requires perpetually out-running expectations — accelerating inflation, not a constant 6%; once 6% is anticipated, the SRPC sits at 6% and unemployment returns to 5%. A/B: any constant rate eventually gets anticipated. C: no deflation requirement exists. D: the NRU doesn't obey policy wishes.
Fix: Below-natural unemployment is rented with inflation surprises; constant rates stop surprising.
The economy of Havren is in long-run equilibrium with unemployment at its natural rate of 5% and inflation of 2%, which is fully anticipated.
(a) Draw a correctly labeled graph showing Havren's short-run AND long-run Phillips curves. Label the current position point A.
(b) Havren's central bank, seeking to lower unemployment before an election, unexpectedly and substantially expands the money supply. Show the short-run effect on your graph, labeling the new position point B. What happens to unemployment and inflation?
(c) Explain the process by which Havren's economy moves from point B to a new long-run equilibrium. Label that equilibrium point C on your graph.
(d) Compare inflation and unemployment at point C with point A.
1. D. Long-run unemployment gravitates to the natural rate whatever inflation runs at — no lasting tradeoff, hence vertical. A: they move inversely only in the short run. B: long-run = flexible prices. C: exactly what the LRPC denies. E: expectations DO adjust — that's why the curve is vertical. Fix: Vertical LRPC = real variables (unemployment) are independent of nominal choices (inflation) in the long run.
2. E. On the LRPC, no one is fooled: actual = expected. A: any fully expected rate works. B/C: gaps between actual and expected are precisely the short-run condition. D: expectations drive wage bargaining. Fix: Long-run equilibrium test: is actual inflation equal to expected? If yes, you're on the LRPC.
3. B. Unexpected stimulus slides the economy up-left along the current SRPC: UE < NRU, inflation up. A: the LRPC ignores money. C: the SRPC shifts up later, not down now. D: wrong direction. E: the short run responds — surprises work temporarily. Fix: Surprise demand policy = movement along the SRPC first; the shift comes later.
4. C. Updated expectations raise wage demands → SRPC up → economy back at NRU with higher inflation. A: the NRU didn't change. B: expectations rose. D: below-NRU positions are temporary by nature. E: inflation ratchets up, not back. Fix: The middle step is always: expectations adjust → SRPC shifts toward the new inflation reality.
5. A. Real side: unchanged (NRU). Nominal side: permanently higher inflation. B/C: no permanent real gains from demand policy. D: both improved is the opposite. E: the economy returns TO the natural rate, not above it. Fix: Stimulus at full employment = temporary real boost, permanent nominal cost.
6. C. Adaptive = backward-looking: tomorrow's forecast is yesterday's experience. A/B: those describe rational expectations. D: nobody assumes zero by default. E: curves don't forecast. Fix: Adaptive looks back; rational looks everywhere, including at the central bank's announcements.
7. E. If the expansion is announced and believed, expectations (and the SRPC) jump immediately — inflation rises with little real effect. A/C: those require fooling people. B: LRPC is untouched by policy. D: expansion raises inflation. Fix: Under rational expectations, only unanticipated policy moves real variables.
8. D. Less frictional unemployment lowers the NRU → LRPC left. A/C/E: nominal/demand events never move it. B: credibility helps disinflation cheaply but doesn't change the natural rate. Fix: LRPC moves only with the NRU: structural and frictional fundamentals, nothing nominal.
9. B. Tightening slides the economy down-right along the SRPC: unemployment temporarily above natural — the sacrifice. A: the LRPC stays put. C: expectations fall gradually (unless perfectly credible). D: opposite. E: potential output survives; the loss is temporary. Fix: Disinflation's bill: above-NRU unemployment until expectations (and the SRPC) come down.
10. A. The unemployment cost shrinks as expectations fall faster — credibility is the whole game. B/D/E: fiscal balances, trade, and reserve rules aren't the mechanism. C: LRAS is vertical; its "slope" isn't a variable. Fix: Sacrifice size ∝ stubbornness of expectations; credibility is the discount.
11. D. Money neutrality = nominal actions can't move real variables in the long run = vertical LRPC (and vertical LRAS). A/B/C: short-run features or transitional moves. E: money growth doesn't lower the NRU. Fix: The two vertical curves — LRAS and LRPC — are the same neutrality statement in two graphs.
12. C. At the NRU with fully expected inflation, the economy is in long-run equilibrium — even ugly inflation rates can be equilibrium rates. A/B: unemployment equals natural, so neither gap exists. D: the SRPC still slopes down; it just sits high. E: disinflation is available at the usual temporary cost. Fix: Long-run equilibrium is about expectations matching reality at the NRU — not about inflation being low.
13. E. Keeping unemployment below the NRU requires perpetually out-running expectations — accelerating inflation, not a constant 6%; once 6% is anticipated, the SRPC sits at 6% and unemployment returns to 5%. A/B: any constant rate eventually gets anticipated. C: no deflation requirement exists. D: the NRU doesn't obey policy wishes. Fix: Below-natural unemployment is rented with inflation surprises; constant rates stop surprising.
Exam tip: The three-point cycle — A (on LRPC) → B (slide along SRPC) → C (back on LRPC, higher inflation) — is the single most reliable Unit 5 FRQ. Practice drawing it with labeled points in under a minute, and practice the two sentences that earn the explanation points: "unemployment falls only while inflation is unexpected" and "expectations adjust, shifting the SRPC until the economy returns to the natural rate." Next lesson: what actually does move the economy's long-run position — growth.