Consider a macroeconomic model of an economy in Long Run market equilibrium. Sup

Question

Consider a macroeconomic model of an economy in Long Run market equilibrium. Suppose there were a shock which was going to cause a decrease in aggregate demand. a. What steps could a government take in order to avoid the long-run market correction? b. Why would the government want to intervene rather than allow the market to correct itself? c. Why do people oppose government intervening in such ways? d. Why does the government typically only intervene during recessionary periods rather than also in expansionary periods as well?

Explanation / Answer

A.) The government could increase the money supply, and that will boost aggregate demand to the equilibrium quantity, with the trade-off of a higher price. B.) The government would want to intervene as a decrease in aggregate demand causes unemployment in the short run, and intervention will get rid of that unemployment. C.) People oppose the government intervening because the good has a higher price due to an expansion of the money supply. D.) The government usually on;y intervenes during recessionary periods because it increases the probability of unemployment increasing in the short run without action.

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