Assume the economy is initially in equilibrium where potential GDP equals real GDP.If the economy experiences a ________ demand shock and the Bank of Canada does not change its target short-term nominal interest rate,the IS curve shifts to the left and real GDP will be ________ potential GDP.
A) positive; greater than
B) positive; less than
C) negative; greater than
D) negative; less than

Question

Quizplus · Accepted Answer

A negative demand shock will decrease demand for goods and services, causing firms to reduce production levels and potentially decrease employment. As a result, real GDP will be lower than potential GDP, meaning there will be a recessionary gap. The IS curve will shift to the left due to the decrease in aggregate demand, which will further push the economy away from potential GDP. Since the Bank of Canada is not changing its target short-term nominal interest rate, there will be no offsetting effect from the monetary policy.

Assume the Economy Is Initially in Equilibrium Where Potential GDP