Use shifts in the AD and AS curves to explain the US experience of strong economic growth, full employment, and price stability in the late 1990s and early 2000s.
Between 1996 and 2000, the US experienced a combination of full employment, strong economic growth, and very low inflation. Specifically, the unemployment rate fell to 4 percent and real GDP grew nearly 4 percent annually, without igniting inflation. At first thought, this 'macoreconomic bliss' seems to be incompatible with the AD-AS model. The aggregate supply curve suggests that increase in aggregate demand that is sufficient for over-full emloyment will raise the price level. Higher inflation, so it would seem, is the inevitable price paid for expanding output beyond the full-employment level. Inflation remained very mild in the late 1990s. Between 1990 and 2000, larger-than-usual increases in productivity occurred because of a burst of new technology relating to computers, the internet, inventory management systems, electronic commerce, etc. This higher-than-usual productivity growth was represented as the rightward shift from AS1 to AS2. The reluctant aggregate demand and aggregate supply curves thus became AD2 and AS2, not AD2 and AS1. Instead of moving from a to b, the economy moved from a to c. Real output increased from Q1 to Q3, and the prive level rose only modestly (fr P1 to P2). The shift of the aggregate supply curve from AS1 to AS2 accommodated the rapid inc in aggregate demand & kept inflatin mild. This remarkable combination of rapid productivitiy growth, rapid real GDP growth, full employment, and relative price-level stability led some observers to proclaim that the US was experiencing a "new era" or a New Economy.