Question

An increase in Aggregate Demand with constant Aggregate Supply generally leads to:

• A. Fall in price level
• B. Rise in unemployment
• C. Rise in output and prices
• D. Fall in national income

Hint:

If the economy is already at "Full Employment," output cannot increase further. In that specific case, an increase in AD would only lead to a rise in prices (Inflationary Gap).

Answer 1

The Correct Option is C

Step 1: Understanding the Concept:
The equilibrium of an economy is determined by the intersection of the Aggregate Demand (AD) and Aggregate Supply (AS) curves.

Step 2: Detailed Explanation:
When AD increases (shifts to the right) while AS remains constant:
• More people want to buy goods and services.
• Producers increase production to meet this demand (if the economy is not at full capacity), leading to a rise in output.
• As demand outpaces current supply, it puts upward pressure on the general price level, leading to a rise in prices (Demand-Pull Inflation).

Step 3: Final Answer:
The result is a rise in both output and prices.