Suppose the aggregate demand curve is given by Y = 12 - r then, if inflation increases by 1 percent ________.
A) aggregate output is unchanged
B) aggregate output increases
C) the nominal interest changes
D) the real interest rate falls

Question

Quizplus · Accepted Answer

The given aggregate demand function does not depend on inflation, so an increase in inflation should not affect aggregate output (choice A) or cause an increase in aggregate output (choice B). The nominal interest rate is not explicitly given in the function, so it is not clear whether it would change (choice C). However, since the real interest rate is equal to the nominal interest rate minus the inflation rate, an increase in inflation should lead to a decrease in the real interest rate (choice D).

Suppose the Aggregate Demand Curve Is Given by Y =