Question

23. Consider a supply shock in the static model that shifts the Short Run Aggregate Supply curve as shown in the figure below (SRAS; to SRAS2): LRAS Price level (GDP deflator, 2009 = 100) SRASZ SRAS Real GDP (trillions of 2009 dollars) If instead of adopting monetary and fiscal policy, the government chooses to remain idle, what would be the long-term consequences of the shock? A) Real GDP will return to its original level, and there will permanently be a higher price level. B) Real GDP will permanently be lower than its original level, and the price level will be permanently higher. C) Real GDP will be above its original level, and there will permanently be a higher price level. D) Real GDP will return to its original level, and the price level will return to its original level.

Answer 1

The price will be at a higher point and the real GDP will return at the original level. The answer is "A". in the long run the demand will again increase and it will shift the AD curve to the right. back to the potential output but at a higher price.