Question:
Assume the economy is in equilibrium. If there is an increase in government spending with no corresponding increase in taxes, what is the most likely short-run effect?
(1) AD left / inc unemployment
(2) AD right / higher output and employment
(3) AD no change / AS left
(4) AD right / lower output and employment
(5) AD left / lower price level
Correct Answer:
(2)
Answer Explanation:
Government spending (G) is a direct component of Aggregate Demand ($AD = C + I + G + X – M$). An autonomous increase in G acts as an injection into the circular flow, shifting the AD curve to the right. In the short run, this stimulates economic activity, resulting in a higher equilibrium level of real output and higher employment.
Topic: Fiscal Policy Year: 2024
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