Consider the following short run aggregate supply equation: Y= $ \hat{\mathrm{Y}} $+ b (P - P^e), where Y is the real output, $ \hat{\mathrm{Y}} $ is the full employment output, P and P^eare the actual and expected price levels, respectively^. Which of the following is correct? A) In the Keynesian model, P is always equal to P^ebecause of sticky-wage assumption. B) In the Keynesian model, P may be different than P^ebecause of sticky-wage assumption^. C) In the Keynesian model, P is always greater than P^ebecause of sticky-wage assumption. D) In the Keynesian model, P is always less than P^ebecause of sticky-wage assumption.

Question

Quizplus · Accepted Answer

In the Keynesian model, P may be different than P^e because of the assumption of sticky wages. This means that wages adjust slowly in response to changes in the aggregate price level. Therefore, in the short run, P may deviate from P^e, which is the expected price level.

Consider the Following Short Run Aggregate Supply Equation: Y= Y^ \hat{\mathrm{Y}} Y^

Consider the Following Short Run Aggregate Supply Equation: Y= $\hat{\mathrm{Y}}$