Question

Many borrowers defaulted on subprime mortgages ultimately disrupting financial markets by August 2007. Which of the following is a likely result of this increase in financial​ frictions? A. The AD curve likely did not shift B. B. The AD curve likely shifted left which caused an upward movement along the MP curve to a higher general equilibrium interest rate C. The AD curve likely shifted left which caused a positive inflation gap D. The AD curve likely shifted left which caused a negative output gap E. none of the above

Answer 1

A. the AD curve likely did not shift B

Step-by-step explanation:

Defaults on subprime mortgages hurts autonomous consumption levels for borrowers, which causes the IS and AD curves to shift left. These defaults also likely increased financial frictions as lending institutions would charge higher real interest rates to protect themselves from the increased default risk.