Answer to Question #242233 in Economics for Danu

Question

suppose that an economy is undergoing a recession because of a fall in AD using an aggregate demand aggregate supply (AD-AS) diagram, depict the situation of the economy and (b) if policy makers take no action, how will the economy evolve over time? explain your answer using an AD-AS diagram

Answer 1

A fall in AD will cause a decrease in equilibrium price level and income.

If policy makers take no action, then in the long run the AS curve will shift leftward, as a result the further decrease in income will occur, and the price level will increase back.