In the basic model with an AD and LRAS curve only, if spending growth is 10% and the Solow growth rate falls from 5% to 3%, then inflation will increase from 5% to 7%.
What transpires to LRAS as AD declines?
- This is what will take place: Since the economy's capacity has diminished, LRAS moves to the left. Since these regulations raise the cost of production, SRAS will likewise decline until output has reached its pre-regulation level.
- A curve that depicts the correlation between price level and real GDP that would exist if all prices, including nominal wages, were completely flexible; prices can vary along the LRAS, but output cannot because it represents the output at full employment.
- The curve shifts to the right as the production factors rise, while a decline in the production factors will result in a movement to the left.
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