When prices are inﬂexible, the economy will respond to demand shocks through short-run changes
in output and unemployment.

Question

Quizplus · Accepted Answer

When prices are inflexible, the economy cannot respond to demand shocks through changes in prices, so it must respond through changes in output, employment, or other variables. This is the basis for the idea of the short-run Phillips curve, which shows the relationship between inflation and unemployment in the short run when prices are sticky.

When Prices Are Inﬂexible, the Economy Will Respond to Demand