Consider the basic AD/AS model, and suppose there is a negative output gap. If an expansionary fiscal policy is pursued and the AS curve shifts right unexpectedly, the fiscal policy may be , and real GDP may
Potential GDP.
A) too weak; stay below
B) too weak; rise above
C) too strong; stay below
D) too strong; rise above
E) appropriate; equal

Question

Quizplus · Accepted Answer

If there is a negative output gap, it means that actual GDP is below potential GDP. Pursuing an expansionary fiscal policy (e.g. increasing government spending or cutting taxes) can help close the output gap by increasing aggregate demand and therefore increasing real GDP. However, if the AS curve shifts right unexpectedly, this means that the cost of producing goods and services has decreased, leading to lower prices and higher output. This can lead to an increase in real GDP beyond potential GDP, which can be considered too strong of an expansionary fiscal policy. Therefore, the answer is D: too strong; rise above potential GDP.

Consider the Basic AD/AS Model, and Suppose There Is a Negative