Question

Consider the AD/AS model in the short-run. All else equal, which of the following will lead to an increase in the price level and in real GDP.

a) An increase in average wages.
b) An increase in desired savings.
c) An increase in government transfer payments.
d) An increase in the net tax rate.
e) An improvement in production technology.

Answer 1

In the AD/AS model, an increase in the price level and real GDP can be caused by various factors, including an improvement in production technology and an increase in government transfer payments. On the other hand, an increase in average wages and the net tax rate can lead to a decrease in both the price level and real GDP.

Step-by-step explanation:

In the AD/AS model, an increase in the price level and real GDP can be caused by several factors:

1. An increase in average wages: This can lead to higher production costs for firms, causing a leftward shift in the short-run aggregate supply (AS) curve. As a result, the price level increases and real GDP decreases.
2. An increase in desired savings: This reduces consumer spending and shifts the aggregate demand (AD) curve to the left. Consequently, both the price level and real GDP decrease.
3. An increase in government transfer payments: This increases disposable income for households, leading to higher consumer spending and a rightward shift in the AD curve. As a result, the price level and real GDP increase.
4. An increase in the net tax rate: This reduces households' disposable income, decreasing consumer spending and shifting the AD curve to the left. Therefore, both the price level and real GDP decrease.
5. An improvement in production technology: This increases productivity and lowers production costs for firms. As a result, the AS curve shifts to the right, leading to an increase in both the price level and real GDP.