An expansionary fiscal policy is likely to be more effective if:
A) the government increases its spending on imports.
B) the economy is running at its full employment level of output.
C) the government increases its spending on locally produced goods and services.
D) the government increases income tax rates.

Question

Quizplus · Accepted Answer

An expansionary fiscal policy is designed to stimulate economic growth and increase aggregate demand. If the government increases its spending on locally produced goods and services, it would create a multiplier effect, where every dollar spent by the government would lead to more than one dollar increase in GDP. Additionally, this would create job opportunities and increase the income of producers, which would further increase consumer spending, leading to a higher level of aggregate demand. On the other hand, if the government spends on imports, it would not have the same multiplier effect, as the money would flow out of the country, ultimately leading to a decrease in the amount of spending that is used for domestic production. If the economy is already at full employment, an expansionary fiscal policy is not needed as it could lead to inflation. Lastly, increasing income tax rates would have a contractionary effect on the economy, leading to a decrease in aggregate demand.

An Expansionary Fiscal Policy Is Likely to Be More Effective