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Magazine Chapter 6: Q4. (page 129)
If an economy has fully flexible prices and demand unexpectedly increases, you would expect the economy鈥檚 real GDP to:
increase.
decrease.
remain the same.
Short Answer
Option (a) increase
Step by step solution
Effect of unexpected change in demand in the market
The unexpected increase in demand will shift the demand curve towards the right from D to D鈥�. The equilibrium point will slide upwards along the same supply curve from e to e鈥�. The prices and output will increase simultaneously to P鈥� and Q鈥�, respectively, to reach a new equilibrium point e.鈥�
Therefore, the supply and prices also boom to maintain equilibrium between supply and demand in the economy.
Effect of unexpected change in demand on the real GDP
As the production and prices have increased to P鈥� and Q鈥�, the economy鈥檚 net worth will also boom for the financial year. Moreover, the real GDP will increase as the output has expanded from Q to Q鈥�, though it will be a little less than the nominal GDP (as it considers both the price and output change).
The nominal GDP will measure the change in output at current prices. So it will include the price effect also. But real GDP will eliminate the price effect and only consider an increase in production at constant prices.
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