Multiple Choice
Which of the following policies represents an automatic stabilizer with respect to fiscal policy?
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20. Fiscal Policy
Introduction to Fiscal Policy
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Which of the following combinations of policies is most effective in reducing demand-pull inflation?
A
Increase government spending and decrease taxes
B
Decrease government spending and increase taxes
C
Decrease government spending and decrease taxes
D
Increase government spending and increase taxes
Verified step by step guidance1
Step 1: Understand that demand-pull inflation occurs when aggregate demand in an economy exceeds aggregate supply, causing prices to rise.
Step 2: Recognize that to reduce demand-pull inflation, policies should aim to decrease aggregate demand.
Step 3: Analyze the effects of fiscal policy tools: increasing government spending and decreasing taxes both increase aggregate demand, which would worsen demand-pull inflation.
Step 4: Conversely, decreasing government spending and increasing taxes reduce aggregate demand by lowering overall spending power in the economy.
Step 5: Conclude that the combination of decreasing government spending and increasing taxes is most effective in reducing demand-pull inflation because it contracts aggregate demand.
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