If an economy is in an equilibrium with an inflationary gap, policy-makers can use

Question

Quizplus · Accepted Answer

If an economy is in equilibrium with an inflationary gap, it means that the current level of output is higher than the potential output, causing an increase in prices. In this case, discretionary fiscal policy can be used to decrease government expenditure to reduce aggregate demand, which would lower prices and bring the economy back to equilibrium. Cutting taxes or increasing government expenditure could further exacerbate the inflationary gap. Automatic fiscal policy, by definition, does not involve discretionary action by policy-makers, so it is not a suitable option in this case.

If an Economy Is in an Equilibrium with an Inflationary