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Question
Refer to the above figure. The government has just engaged in expansionary fiscal policy shifting the aggregate demand curve from AD1 to AD2. Interest rates have started to rise. Which of the following statements is true in the short run?
A) Real GDP will be $14 trillion since the effect of government spending is not influenced by interest rates.
B) Real GDP will fall back to $11 trillion since the effect that increased government spending has on real GDP is short lived.
C) Real GDP will go beyond $14 trillion as businesses and consumers react to the increase in interest rates.
D) Real GDP will end up somewhere between $11 and $14 trillion as businesses and consumers reduce their spending in response to the increase in interest rates.
Answer
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