Suppose that instead of using discretionary fiscal policy to close an expansionary gap, policymakers left the economy alone.What would probably happen?
A) Depression would result.
B) The economy would be stuck in the gap.
C) The aggregate demand curve would shift, eliminating the problem.
D) The gap would close after a spurt of inflation.

Question

Suppose that instead of using discretionary fiscal policy to close an expansionary gap, policymakers left the economy alone.What would probably happen?  
A) Depression would result. 
B) The economy would be stuck in the gap. 
C) The aggregate demand curve would shift, eliminating the problem. 
D) The gap would close after a spurt of inflation.

Quizplus · Accepted Answer

If policymakers do not use discretionary fiscal policy to close an expansionary gap, the economy would eventually self-correct through inflationary pressures. As output exceeds potential output, the demand for labor and other resources increases, which leads to wage and price increases. This causes a rise in the cost of production, leading firms to reduce production and employment to bring output back to the potential output level. Eventually, the economy would return to equilibrium, with the gap closed but at the cost of higher inflation.

Suppose That Instead of Using Discretionary Fiscal Policy to Close