Econia's unemployment rate is 2%, and its natural rate of unemployment is 4.5%. Which of the following describes a way that Econia's economy could return to its natural rate of unemployment?
A) Over time, the wage rates will drop, which causes workers to drop out of the labor force.
B) The government might reduce taxes to increase the purchasing power of consumers.
C) The government might increase the money supply to stimulate the economy.
D) Over time, wages will rise, which causes the costs of production to rise and output to fall.

Question

Quizplus · Accepted Answer

When an economy's actual unemployment rate is below its natural rate, it suggests that the economy might be overheating. In such cases, rising wages can lead to increased costs of production, which can, in turn, reduce output and increase unemployment, moving the unemployment rate back towards its natural rate. This process is a part of the economic cycle where demand-pull inflation leads to increased costs for businesses, potentially slowing down the economy and increasing unemployment rates to more sustainable levels.

Econia's Unemployment Rate Is 2%, and Its Natural Rate of Unemployment