Scenario 14-2. The economy is in long-run equilibrium. Suddenly, due to corporate scandals, international tensions, and the loss of confidence among policymakers, citizens become pessimistic concerning the future. They maintain this level of pessimism for a long time.
-Refer to Scenario 14-2. Which of the following are consistent with the aggregate demand and aggregate supply theory?
A)The expected price level rises. Bargains are struck for higher increases in wages.
B)The expected price level rises. Bargains are struck for lower increases in wages.
C)The expected price level falls. Bargains are struck for higher increases in wages.
D)The expected price level falls. Bargains are struck for lower increases in wages.

Question

Quizplus · Accepted Answer

When people become pessimistic, aggregate demand falls. This leads to lower output, which in turn leads to lower employment and income. As a result, people will be willing to accept lower increases in wages. The lower demand also puts downward pressure on prices, so the expected price level falls. Therefore, bargains are struck for lower increases in wages as the expected price level falls.