Final answer:
In the long-run, as unemployment falls below its natural rate, the economy moves to a new equilibrium. This occurs through a labor shortage and the increase in wages, which leads to a leftward shift in the aggregate supply curve and an inflationary increase in the price level.
Step-by-step explanation:
In the long-run neoclassical analysis, as the level of unemployment falls below its natural rate, the economy moves to a new equilibrium called E₂.
At this point, there is a labor shortage as companies try to bid workers away from other companies and encourage their current workers to work longer hours.
This high demand for labor drives up wages, which leads to a leftward shift in the short-run Keynesian aggregate supply curve back to SRAS₁.
The economy eventually reaches a new equilibrium with the same level of real GDP, but with an inflationary increase in the price level.