An increase in aggregate demand causes an increase in ________ only in the short run, but causes an increase in ________ in both the short run and the long run. a. the price level; real GDP b. real GDP; the price level c. real GDP; real GDP d. the price level; the price level
Question
An increase in aggregate demand causes an increase in ________ only in the short run, but causes an increase in ________ in both the short run and the long run.
a. the price level; real GDP
b. real GDP; the price level
c. real GDP; real GDP
d. the price level; the price level
Solution
The correct answer is a. the price level; real GDP.
Here's why:
In the short run, an increase in aggregate demand will cause an increase in both the price level and real GDP. This is because, in the short run, firms will respond to increased demand by both raising prices and increasing production.
However, in the long run, the economy's capacity to produce goods and services (real GDP) is determined by factors like technology and the supply of labor and capital, not by the price level. So, in the long run, an increase in aggregate demand will only result in an increase in the price level, not an increase in real GDP.
Therefore, an increase in aggregate demand causes an increase in the price level only in the short run, but causes an increase in real GDP in both the short run and the long run.
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