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Chapter 20: Q 7. (page 546)

“If prices and wages are perfectly flexible, then γ=0and changes in aggregate demand have a smaller effect on output.” Is this statement true, false, or uncertain? Explain your answer.

Short Answer

Expert verified

The statement is false.

Step by step solution

01

Step 1. Define aggregate demand.

The total demand for final products and services in an economy at a given time is known as aggregate demand or domestic final demand.

02

Step 2. Is the given statement true, false or uncertain?

The sensitivity of inflation to the production gap is denoted by γ. If salaries and prices are entirely flexible, thenγ would be quite large, indicating a high degree of sensitivity. Because aggregate demand is so sensitive, changes in aggregate demand would have a huge impact on output.

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