Refer to the graph above. Assume the economy is at the initial position of B₂. An increase in aggregate demand with a corresponding adjustment in inflation expectations and wages will tend to: A) Move the economy to point B₃ B) Move the economy to point C₂ C) Move the economy to point C₁ D) Have no effect in shifting the economy from point B₂

Question

Quizplus · Accepted Answer

An increase in aggregate demand would shift the AD curve to the right, causing an increase in both real GDP and the price level. This increase in the price level would lead to a higher rate of inflation, which would cause inflation expectations to adjust upwards. The increase in real GDP would also lead to a decrease in unemployment and an increase in wages. As wages increase, the short-run aggregate supply (SRAS) curve will shift to the left, intersecting with the AD curve at point B₃, where the economy will reach a new equilibrium.

Refer to the Graph Above