Refer to the graph above. Assume that the economy is in initial equilibrium where AD₁ intersects AS₁. If there is an unanticipated decrease in aggregate demand to AD₂, then in the view of new classical economics the economy will: A) Self-correct through a shift in AS, which brings output back to Q₁ B) Self-correct through a shift in AD, which brings output back to Q₁ C) Need the government to implement expansionary policy in order to bring output back to Q₁ D) Need the government to implement contractionary policy in order to bring output back to Q₁

Question

Quizplus · Accepted Answer

New classical economics believes that the economy will self-correct through a shift in AS, which will bring output back to its initial equilibrium level of Q₁. According to this view, the economy operates at full employment in the long run, and any deviation from this equilibrium is only temporary. Therefore, the government intervention through expansionary or contractionary policies is not necessary, as the market mechanisms will automatically lead the economy back to its initial equilibrium level.

Refer to the Graph Above