Suppose Canada's economy is in a long-run equilibrium with real GDP equal to potential output.Now suppose there is an increase in the Canadian-dollar price of all imported raw materials.In the short run,________.In the long run,________.
A)real GDP and the price level both fall; real GDP is below its original level with a lower price level
B)real GDP and the price level both rise; real GDP is above its original level with a higher price level
C)real GDP and the price level both rise; real GDP returns to its original level with a higher price level
D)real GDP rises and the price level falls; real GDP returns to its original level with a lower price level
E)real GDP falls and the price level rises; real GDP and the price level return to their original levels

Question

Quizplus · Accepted Answer

In the short run, the increase in imported raw material prices will increase production costs for firms, leading to a decrease in short-run aggregate supply (SRAS). This will cause a temporary increase in the price level and a decrease in real GDP below its potential level. 
However, in the long run, firms will adjust their production processes and negotiate lower prices for inputs, leading to an increase in SRAS and a return to potential output. The increase in imported raw material prices will also cause an increase in the price level in the long run, but real GDP will return to its original level. Thus, the correct choice is E.

Suppose Canada's Economy Is in a Long-Run Equilibrium with Real