In the extended AD-AS model, which of the following is required to facilitate the economy's return to full employment in the long run after a drop in aggregate demand?

Question

In the extended AD-AS model, which of the following is required to facilitate the economy's return to full employment in the long run after a drop in aggregate demand?
Multiple choice question.

Falling nominal wages and prices

Expansion of the labor force

Rising costs and prices

Increased government spending

GPT-4o mini · Answer

In the extended AD-AS model, to facilitate the economy's return to full employment in the long run after a drop in aggregate demand, the correct answer is:

Falling nominal wages and prices.

When aggregate demand decreases, it can lead to unemployment and the economy operating below its potential output. In the long run, to restore full employment, nominal wages and prices may need to fall, which can help shift the short-run aggregate supply (SRAS) curve to the right, allowing for a return to the natural level of output and employment.