Question

If the monetary authorities decide to increase the nominal money supply by 10% when the economy is at its full employment level of output, in the long run the aggregate price level increases by ________ and real GDP ________.

Answer 1

Answer:

• 10%
• (will increase in the short run) but in the long run it will return to the potential output level.  

Explanation:

If the money supply is increased by 10%, the inflation rate will also increase by 10%.

In the short run the economy will be able to produce an output which is higher than the potential GDP, but once the inflation rate catches up, both the unemployment rate will increase and the real GDP will return to its potential output level.