Refer to the above figure. Suppose we are at E* and the dollar weakens. Which aggregate supply curve must apply if the price level increases?
A) 3 only
B) 4 only
C) 5 only
D) 4 or 5

Question

Quizplus · Accepted Answer

If the dollar weakens, it means that the exchange rate has changed, and the price of imports has increased. This will lead to higher production costs for firms, causing a leftward shift in the short-run aggregate supply curve (SRAS). As a result, the new equilibrium will occur at a higher price level and lower output level. Since the SRAS curve has shifted left, the new equilibrium point must be on either curve 4 or 5. Thus, both aggregate supply curves 4 and 5 could apply if there is a rise in the price level due to a weakening dollar.

Refer to the Above Figure