Question

Suppose concerns about the size of the federal budget deficit led the U.S. Congress to cut all funding for research and development for ten years. Assuming this has an impact on technology growth, what does the AD/AS model predict would be the likely effect on equilibrium GDP and the price level?

Short answer

The equilibrium GDP will rise slowly and the price level will increase.

Step-by-step solution

Step 1. Definitions.

Aggregate supply is the total quantity of output (i.e. real GDP) firms will produce and sell.

Aggregate demand is the amount of total spending on domestic goods and services in an economy.

Step 2. Equilibrium GDP and price level.

The equilibrium GDP will rise slowly and the price level will increase. The cutting down of funding for research and development would reduce productivity growth, which shifts the SRAS curve rightwards at a slower pace.