Refer to Figure 17.3. Suppose the economy is at Point A. According to the rational expectation theory, an unanticipated increase in money supply
A) leaves the economy at Point A.
B) moves the economy to Point B.
C) moves the economy to Point C.
D) moves the economy to Point D.

Question

Quizplus · Accepted Answer

According to rational expectation theory, in the short run, an unanticipated increase in money supply will lead to a decrease in the nominal interest rate, which in turn leads to an increase in investment and consumption spending. This increase in spending will shift the aggregate demand curve to the right, leading to a movement from point A to point B (along the short-run aggregate supply curve).