The figure below depicts the multiplier model. In this instance, it shows a downward shift of the aggregate demand curve (AD), reducing the level of output from A to Z. Suppose that we begin again at Z and that there is no full-employment level of output. An increase in aggregate demand in these circumstances will most likely cause: Select one correct answer Group of answer choicesA rise in the general level of prices.A fall in wages.A fall in employment.An increase in output Y.
Question
The figure below depicts the multiplier model. In this instance, it shows a downward shift of the aggregate demand curve (AD), reducing the level of output from A to Z. Suppose that we begin again at Z and that there is no full-employment level of output. An increase in aggregate demand in these circumstances will most likely cause: Select one correct answer Group of answer choicesA rise in the general level of prices.A fall in wages.A fall in employment.An increase in output Y.
Solution
The correct answer is "A rise in the general level of prices."
Here's why:
The aggregate demand (AD) curve shows the quantity of all goods and services demanded in the economy at any given overall price level at a given time. If aggregate demand increases, and we're already at a high level of output (point Z), then producers can't easily increase output.
Instead, they respond to the increased demand by raising prices. This is because, in the short run, many of the resources used to produce goods and services are fixed, such as capital and technology. Therefore, when demand increases, firms cannot increase their output without increasing the price level.
So, an increase in aggregate demand in these circumstances will most likely cause a rise in the general level of prices.
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