Question

An economy’s relationship between short-run equilibrium output and inflation (its aggregate demand curve) is described by the equation: Y = 13,000 – 20,000π. Initially, the inflation rate is 4 percent, or π = 0.04. Potential output Y* equals 12,000.

a. The short-run equilibrium output is_____________ .
b. The rate of inflation at the long-run equilibrium is _____________.

Answer 1

Answer:

(a) 12,200

(b) 5%

Explanation:

(a)  Y = 13,000 - 20,000 (.04)

Y = 13,000 - 800

Y = 12,200

Therefore, the short run equilibrium output is  12,200.

(b) Y = 13,000 - 20,000π

Substituting the value of y* by 12,000

12,000 = 13,000 - 20,000π

20,000π = 13,000 - 12,000

π = (1,000 ÷ 20,000 ) × 100

π = 0.05 or 5 %

Therefore, the rate of inflation at the long-run equilibrium is 5%.