The equilibrium effects of a temporary increase in total factor productivity include
A) an increase in the real wage and an increase in the real interest rate.
B) an increase in the real wage and a decrease in the real interest rate.
C) a decrease in the real wage and an increase in the real interest rate.
D) a decrease in the real wage and a decrease in the real interest rate.
E) only a decrease in the real interest rate.

Question

Quizplus · Accepted Answer

A temporary increase in total factor productivity would increase the returns to both labor and capital, resulting in an increase in the real wage and real interest rate. The increase in real wage is due to higher demand for labor while the increase in real interest rate is due to higher returns to capital. However, this increase in productivity is temporary, which means that the equilibrium effects will only be temporary as well. After the productivity shock dissipates, the economy will return to its original equilibrium.

The Equilibrium Effects of a Temporary Increase in Total Factor