Chapter 4R, Problem 8MCQ

To determine

The type of shock which poses a policy dilemma as it brings both inflation and unemployment in the economy.

Explanation of Solution

A negative supply shock is caused by a leftward shift of the aggregate supply curve which raises the price level as well as increases unemployment in the economy.

Graphically, it is shown below:

• In the graph below, due to negative supply shock, the output/employment has fallen and the price has risen.

  

Hence, option ‘a’ is the correct option.

The supply curve shifts to the right as a result of a positive supply shock increasing output, whereas a negative supply shock reduces production, which raises prices. Hence, option (b) is incorrect.

A positive demand shock will result in a shortage and a price increase, whereas a negative demand shock would result in an oversupply and a price decrease. Hence, options (c) and (d) are incorrect.

Economics Concept Introduction

Economic shocks are both the supply side as well as demand side in nature. A supply shock can be negative or positive depending on the shift of the aggregate supply curve.

A demand shock can be positive or negative depending on the shift of the aggregate demand curve.