Question

If a short-run equilibrium occurs at a level of output above the long-run level of aggregate supply, then in the transition to the long run what will happen to the price level and to the LM curve?

Answer 1

In the short run there is an inflationary gap because the equilibrium occurs at a level of output which is above the long run aggregate supply. In the transition to the long run short run aggregate supply curve shifts to the left which increases the price level further and bring the GDP back towards full employment

In the IS-LM model, LM curve is likely to shift to the left because higher price level will increase the demand for money and the rate of interest is increased. In the long run, as the LM curveis shifted to the left the real GDP is back to full employment level and the interest rate is higher.