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Magazine Chapter 23: Q.23AP (page 618)
Suppose the inflation rate remains relatively constant while output decreases and the unemployment rate increases. Using an aggregate demand and supply graph, show how this scenario is possible.
Short Answer
The prospect of a scenario in which inflation remains relatively constant but output falls and the unemployment rate rises.
Step by step solution
Step 1. Concept of Inflation
Inflation is defined as the rate at which the general price level of goods and services rises, resulting in a decline in the economy's purchasing power.
Step 2. Explanation
The following is a diagram depicting the potential of a scenario with relatively constant inflation while output declines and unemployment rises:
Where, in Figure 1,
- The long run aggregate supply curve is abbreviated as LRAS.
- AS is the aggregate supply curve in the near run.
- The aggregate demand curve is abbreviated as AD.
- I stands for inflation.
- Y stands for output.
The aggregate demand and supply curves shift leftward when inflation remains constant and unemployment grows. Because of unemployment, consumer spending, investment, and net export spending will all fall, A D will be changed to AD 1 and AS will be changed to AS 1. The AD-When curve will shift to the left as the level of expenditures decreases. In the short run, if the aggregate demand and supply curves both shift leftward by the same amount, the inflation rate remains constant, but output declines and unemployment rises.
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