No Bull Economics Lessons

Macroeconomics & Microeconomics Concepts You Must Know

AD/AS and Fiscal Policy (7 of 10)

Question 7:
Suppose the economy is operating at a level of output that is below full employment and there are no changes in fiscal and monetary policies. What will happen to real GDP and the price level as the economy is restored to long-run equilibrium?

A.  Real GDP decrease; Price level decrease
B.  Real GDP decrease; Price level increase
C.  Real GDP no change; Price level no change
D.  Real GDP increase; Price level increase
E.  Real GDP increase; Price level decrease

Scroll down for correct answer

Correct Answer: E, Real GDP increase; Price level decrease. If the economy is in a recession and policymakers do nothing, eventually long-run equilibrium will be restored. Businesses will demand fewer laborers and wages will fall. The cost of production has decreased so short-run aggregate supply will shift right to meet the full-employment output level.