An argument that links the inflation of the early 1970s with excessive government spending on the Vietnam War and thus on excessive aggregate demand

Question

Quizplus · Accepted Answer

The argument is consistent with models that include trade-offs between inflation and unemployment (A), as excessive aggregate demand can lead to inflation while reducing unemployment. It's also consistent with a scenario where GDP is initially below potential (B), as increased government spending can stimulate demand and economic activity, leading to inflation when the economy approaches or exceeds its potential output. The rational-expectations model (C) assumes that agents use all available information to make forecasts, which includes government spending and its effects on the economy, making the argument consistent with this model as well. Lastly, the argument aligns with the view that firms and consumers optimize based on available information (D), as they would adjust their expectations and actions in response to government spending and its inflationary effects.

An Argument That Links the Inflation of the Early 1970s