A negative supply shock causes stagflation in the short run.

Question

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A negative supply shock, such as a decrease in the availability of key resources, can cause an increase in the cost of production for firms leading to an increase in prices. This can lead to inflation. At the same time, the decrease in availability of resources can lead to a decrease in output, causing unemployment and an overall decrease in economic growth. This combination of higher inflation and lower economic growth is referred to as stagflation.

A Negative Supply Shock Causes Stagflation in the Short Run