In the classical model, an increase in the unemployment rate
A) will persist when the reduction in output is caused by a reduction in aggregate demand.
B) will result in an increase in the price level if the reduction in output is caused by a change in aggregate demand.
C) will likely be temporary.
D) is a signal of demand-pull inflation.

Question

Quizplus · Accepted Answer

In the classical model, unemployment is seen as a temporary phenomenon, as the labor market adjusts through wage and price adjustments. This means that if the increase in unemployment is not caused by a persistent reduction in the economy's productive capacity (e.g. due to a natural disaster or technological shock), then it is likely to be reversed in the long run as prices and wages are adjusted. Option A is incorrect because a reduction in output caused by a reduction in aggregate demand could be temporary or persistent depending on the source of the demand shock. Option B is incorrect because an increase in the price level is not necessarily associated with a change in unemployment, and it depends on the shape of the aggregate supply curve. Option D is incorrect because higher inflation is associated with a lower unemployment rate in the short run according to the Phillips curve, so an increase in unemployment would be associated with disinflation, not demand-pull inflation.

In the Classical Model, an Increase in the Unemployment Rate