The economy is in long-run equilibrium when there is an incorrectly anticipated increase in aggregate demand brought about by expansionary monetary policy.Specifically,aggregate demand increases by less than people anticipate (bias upward).According to new classical theory,the price level will __________ and Real GDP will __________ in the short run.In the long run,the price level will be __________ than it was before aggregate demand increased.

Question

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According to the new classical theory, in the short run, prices will rise (due to the incorrectly anticipated increase in aggregate demand) but Real GDP will fall (due to market adjustments). In the long run, prices will be higher than they were before aggregate demand increased, but Real GDP will return to its original level (known as the natural rate of output), resulting in a fall in price level and higher output. Choice C fits this scenario.

The Economy Is in Long-Run Equilibrium When There Is an Incorrectly