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Dynamic AD-AS Model: Fiscal Policy quiz

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  • What is the main goal of fiscal policy in the dynamic AD-AS model?
    The main goal is to adjust aggregate demand to maintain potential GDP and achieve long-run equilibrium.
  • How does expansionary fiscal policy affect aggregate demand?
    Expansionary fiscal policy increases aggregate demand by raising government spending or cutting taxes.
  • When is expansionary fiscal policy typically used in the dynamic AD-AS model?
    It is used during a recession when real GDP is below potential GDP.
  • What are two main tools of expansionary fiscal policy?
    The two main tools are increasing government spending and cutting taxes.
  • What happens to the aggregate demand curve when the government implements expansionary fiscal policy?
    The aggregate demand curve shifts to the right.
  • What is the effect of contractionary fiscal policy on aggregate demand?
    Contractionary fiscal policy decreases aggregate demand by reducing government spending or increasing taxes.
  • When is contractionary fiscal policy typically used?
    It is used when the economy is experiencing inflation and real GDP is above potential GDP.
  • How does increasing taxes affect aggregate demand?
    Increasing taxes lowers consumption, which decreases aggregate demand.
  • What is the purpose of contractionary fiscal policy in the dynamic AD-AS model?
    Its purpose is to reduce inflation by bringing aggregate demand back in line with potential GDP.
  • In the dynamic AD-AS model, what generally happens to long-run aggregate supply over time?
    Long-run aggregate supply tends to shift to the right year over year as the economy grows.
  • What does it mean for the economy to be at long-run equilibrium in the dynamic AD-AS model?
    It means that aggregate demand, short-run aggregate supply, and long-run aggregate supply all intersect at the same point, representing potential GDP.
  • What happens if aggregate demand increases too much in the dynamic AD-AS model?
    If aggregate demand increases too much, the economy exceeds potential GDP, leading to inflation.
  • How does the government use fiscal policy to address a shortfall in aggregate demand?
    The government increases spending or cuts taxes to boost aggregate demand and reach potential GDP.
  • What is the effect of decreasing government spending in contractionary fiscal policy?
    Decreasing government spending lowers aggregate demand, helping to reduce inflation.
  • Why is understanding fiscal policy in the dynamic AD-AS model important for macroeconomics?
    It highlights the role of government intervention in managing economic cycles, aggregate supply, and demand to maintain market equilibrium.