Question

8. Economic fluctuations I 

The following graph shows the economy in long-run equilibrium at the expected price level of 120 and the natural level of output of $300 billion. Suppose the government increases spending on building and repairing highways, bridges, and ports. 

Shift the short-run aggregate supply (AS) curve or the aggregate demand (AD) curve to show the short-run impact of the increase in government spending. 

In the short run, the increase in government spending on infrastructure causes the price level to _______ the price level people expected and the quantity of output to _______ the natural level of output. The increase in government spending will cause the unemployment rate to _______ the natural rate of unemployment in the short run. 

Again, the following graph shows the economy in long-run equilibrium at the expected price level of 120 and the natural level of output of $300 billion, before the increase in government spending on infrastructure. 

During the transition from the short run to the long run, price-level expectations will _______ and the _______  curve will shift to the _______ .

Now show the long-run impact of the increase in government spending by shifting both the aggregate demand (AD) curve and the short-run aggregate supply (AS) curve to the appropriate positions. 

In the long run, as a result of the increase in government spending, the price level _______ , the quantity of output _______ the natural level of output, and the unemployment rate _______ the natural rate of unemployment.

Answer 1

Answer 2

(The above graph answers are correct)

In the short run, the increase in government spending on infrastructure causes the price level torise above   the price level people expected and the quantity of output torise above   the natural level of output. The increase in government spending will cause the unemployment rate tofall below   the natural rate of unemployment in the short run.

During the transition from the short run to the long run, price-level expectations willadjust upward   and theshort-run aggregate supply   curve will shift to theleft   .

In the long run, as a result of the increase in government spending, the price levelincreases   , the quantity of outputreturns to   the natural level of output, and the unemployment ratereturns to   the natural rate of unemployment.