Within the AD/AS model, an increase in capital formation that permits the economy to achieve a larger output will
A) increase long-run aggregate supply.
B) increase short-run aggregate supply, but long-run aggregate supply will be unaffected.
C) increase aggregate demand.
D) decrease aggregate demand.

Question

Quizplus · Accepted Answer

An increase in capital formation will lead to an increase in the productive capacity of the economy, which will shift the long-run aggregate supply curve to the right. This will result in a higher potential output level and lower prices in the long run. The short-run aggregate supply curve may also shift to the right in the short term, but this effect is temporary as prices adjust to the new level of output. Therefore, the increase in capital formation will have a greater impact on long-run aggregate supply than on short-run aggregate supply or aggregate demand.

Within the AD/AS Model, an Increase in Capital Formation That