If the economy is in equilibrium at full employment, an increase in aggregate demand will:
A) increase both the price level and the level of output in the long run.
B) increase the price level and leave the level of output unchanged in the long run.
C) decrease the price level and leave the level of output unchanged in the long run.
D) decrease both the price level and the level of output in the long run.

Question

Quizplus · Accepted Answer

If the economy is at full employment, an increase in aggregate demand will increase the price level in the short run, but it will not affect the level of output as all resources are already in use. In the long run, prices will start to adjust and wages will increase, causing an increase in production costs and reducing the short-run aggregate supply. This will result in a new equilibrium with a higher price level, but output will remain the same. This phenomenon is known as the long-run Phillips curve.

If the Economy Is in Equilibrium at Full Employment, an Increase