If the economy begins at full employment and then aggregate demand decreases,
A) potential GDP decreases to fill the resultant deflationary gap.
B) a recessionary gap is created and the AS curve shifts rightward as the money wage rate falls.
C) a recessionary gap is created shifting the AD curve rightward.
D) an inflationary gap is created shifting the AS curve leftward as the money wage rate rises.
E) an inflationary gap is created shifting the AD curve rightward.

Question

Quizplus · Accepted Answer

When aggregate demand decreases, it creates a recessionary gap where the actual GDP is below the potential GDP. As a result, the aggregate supply (AS) curve shifts rightward as the money wage rate falls. This is because firms are forced to adjust their prices and wages downwards to clear the excess supply of goods and services in the market. This shift in the AS curve ultimately leads to a lower price level and higher output, helping bring the economy back to equilibrium.

If the Economy Begins at Full Employment and Then Aggregate