Which of the following statements best describes how ﬁrms respond to demand shocks under conditions of inﬂexible prices?
A) Firms respond to shorter-term demand shocks by adjusting production levels; more persistent changes in demand result in changes in inventories.
B) Firms respond to shorter-term demand shocks by adjusting inventories; more persistent changes in demand result in changes in production levels.
C) Firms are reluctant to adjust inventory levels because the costs are higher than changing the quantity of output produced.
D) Firms are quick to let go of workers when negative demand shocks occur.

Question

Quizplus · Accepted Answer

When prices are inflexible, firms are more likely to adjust their inventories in response to short-term demand shocks rather than changing production levels. This is because changing production levels may incur higher costs, such as adjusting the number of workers or machines used, while adjusting inventories allows firms to better match supply with demand in the short-term without incurring significant costs. However, if a change in demand persists over a longer period of time, firms may need to adjust their production levels accordingly to avoid running out of inventory or producing excess goods.

Which of the Following Statements Best Describes How ﬁRms Respond