The natural real GDP will ________ following a rise in energy prices because
A)rise;labor productivity increases.
B)fall;labor productivity increases.
C)fall;real wages are flexible and employment is less attractive relative to leisure.
D)B and C are both correct.

Question

Quizplus · Accepted Answer

An increase in energy prices leads to higher production costs, which in turn reduces business profitability and reduces the demand for labor. Firms respond by reducing employment levels, which leads to a decrease in real GDP. Additionally, as real wages remain sticky, the loss in purchasing power of the labor income leads to a fall in consumption expenditure, which further reduces real GDP. Finally, as employment decreases, leisure becomes relatively more attractive, and people might reduce their labor force participation, thus further reducing aggregate output.

The Natural Real GDP Will ________ Following a Rise in Energy