Answer to Question #119822 in Economics for Galip USTA

Question

Suppose an economy is in equilibrium and initial equilibrium output equals its full employment level, denoted Yf. Suddenly there is a temporary shift in consumer tastes away from domestic products. Show the effects of such a shift on output and exchange rate. (Hint: Use DD and AA curves)

Answer 1

If there is a temporary shift in consumer tastes away from domestic products, then the aggregate supply will decrease, so the exchange rate will increase, and the output will decrease.