Assume the economy is experiencing an inflationary gap and the government has a budget surplus.Which of the following is a correct example of counter-cyclical fiscal policy with the corresponding effect on the budget?
A)Government spending increases causing a smaller budget surplus.
B)Government spending increases causing a larger budget surplus.
C)Tax rates decrease causing a smaller budget surplus.
D)Government spending decreases causing a larger budget surplus.
E)Transfer payments and tax rates both decrease.

Question

Quizplus · Accepted Answer

To close an inflationary gap, counter-cyclical fiscal policy would involve reducing government spending or increasing taxes. Therefore, Choice D is the correct example of counter-cyclical fiscal policy, as it involves decreasing government spending, causing a larger budget surplus. A larger surplus would be expected, as the decrease in spending would reduce aggregate demand and help to close the inflationary gap. The other choices (A, B, C, and E) would not be effective in closing an inflationary gap with a surplus budget.

Assume the Economy Is Experiencing an Inflationary Gap and the Government