The diagram below is for a closed economy which begins in long-run equilibrium at Y* and P0.
FIGURE 31-3
-Refer to Figure 31-3.Suppose the government implements an expansionary fiscal policy which increases the budget deficit.The initial effect of this policy is the opening of a(n) ________ gap, and a new short -run equilibrium with a price level of ________ and real GDP of ________.

Question

The diagram below is for a closed economy which begins in long-run equilibrium at Y* and P0.
  FIGURE 31-3
-Refer to Figure 31-3.Suppose the government implements an expansionary fiscal policy which increases the budget deficit.The initial effect of this policy is the opening of a(n) ________ gap, and a new short -run equilibrium with a price level of ________ and real GDP of ________.

Quizplus · Accepted Answer

Expansionary fiscal policy, which increases the budget deficit, initially leads to an inflationary gap. This is because the increase in government spending or decrease in taxes boosts aggregate demand, moving the economy to a higher level of output (real GDP) than the full employment level (Y*). The correct answer indicates an inflationary gap with the price level remaining at P1 initially and real GDP increasing to Y1, reflecting the short-term impact before any price level adjustments.

The Diagram Below Is for a Closed Economy Which Begins