Question

20. From the short-run equilibrium at point B, suppose the aggregate demand remains un- changed and there are no other shocks hitting the economy. The economy can adjust itself and move to the long-run equilibrium without policy intervention. Which of the following is true? A. The economy will return to the long-run equilibrium (point A), where the real GDP equals Y* and the price level is P*. B. The economy will move to a new long-run equilibrium, where the real GDP equals Y* but the price level is below P*. C. The economy will move to a new long-run equilibrium, where the real GDP is above Y* and the price level is above P. D. The economy will move to a new long-run equilibrium, where the real GDP is below Y* and the price level equals P'. 21. Stagflation occurs when A. the rightward shifts of the aggregate demand curve lead to a prolonged period of de- creases in both the real GDP and the price level. B. the government raises the labor income tax during an economic boom. C. the leftward shifts of the short-run aggregate supply curve lead to a prolonged period of decreases in real GDP and rising price level. D. the central bank raises the interest rate to dampen consumption and investment expen- diture.

Answer 1

20 the correct answer is option B. GDP is equal to Y* but price level below P*.

Reason - if government did not intervene during recession the economy will be self correct itself. Due to unemployment and fall in nominal wage in long run. The economy will be back to potential output but a lower aggregate price level.

21. The correct answer is C.

Reason - stagflation occurs when production of goods and services in the economy slows down and starts decline.