Use the figure below to answer the following question(s). Figure 10-17
With the passage of time, which of the following will tend to direct this economy in Figure 10-17 toward its long-run sustainable rate of output?
A) lower interest rates that will stimulate AD and lower resource prices that will increase SRAS
B) higher interest rates that will reduce aggregate demand and higher resource prices that will reduce SRAS
C) lower interest rates and higher resource prices, both of which will stimulate aggregate demand
D) higher interest rates that will reduce SRAS and lower resource prices that will stimulate aggregate demand

Question

Use the figure below to answer the following question(s). Figure 10-17
 With the passage of time, which of the following will tend to direct this economy in Figure 10-17 toward its long-run sustainable rate of output?
A) lower interest rates that will stimulate AD and lower resource prices that will increase SRAS 
B) higher interest rates that will reduce aggregate demand and higher resource prices that will reduce SRAS 
C) lower interest rates and higher resource prices, both of which will stimulate aggregate demand 
D) higher interest rates that will reduce SRAS and lower resource prices that will stimulate aggregate demand

Quizplus · Accepted Answer

In the long run, an economy settles at its potential output level, which is determined by supply-side factors such as labor, capital, and technology. Thus, the sustainable level of output is determined by the long-run aggregate supply (LRAS) curve. The LRAS curve is vertical at the potential output level, implying that changes in aggregate demand only affect inflation, not output.

Option A is incorrect because lower resource prices will increase SRAS, not increase it, and as explained earlier, changes in AD do not affect the long-run output level.

Option C is incorrect because lower interest rates and higher resource prices do not act in the same direction. Lower interest rates will stimulate consumer and business spending, increasing aggregate demand, while higher resource prices will increase production costs, reducing SRAS, and potentially increasing inflation.

Option D is incorrect because higher interest rates do not reduce SRAS. Higher interest rates may reduce aggregate demand but do not necessarily affect supply-side factors.

Therefore, the correct answer is B because higher interest rates and higher resource prices will reduce aggregate demand and SRAS, respectively, and help the economy settle at its potential output level, which is the sustainable output level in the long run.

Use the Figure Below to Answer the Following Question(s)