What are government's fiscal policy options for ending severe demand-pull inflation? Which of these fiscal options do you think might be favored by a person who wants to preserve the size of government? A person who thinks the public sector is too large? How does the "ratchet effect" affect anti-inflationary fiscal policy?

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Business

Hadley Mack

9 February, 15:50

What are government's fiscal policy options for ending severe demand-pull inflation? Which of these fiscal options do you think might be favored by a person who wants to preserve the size of government? A person who thinks the public sector is too large? How does the "ratchet effect" affect anti-inflationary fiscal policy?

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Answers (1)

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Luke · Answer 1

1. Raising taxes or reducing government spending - 2. Raising taxes - 3. Cut Government Spending - 4. Could end in recession

Explanation:

Demand-pull inflation means that the inflation is cause for increases in the Aggregate Demand. To combat it with fiscal policies, the usual es to reduce the Aggregate Demand (AD). To raise taxes will decrease consumption therefore reducing the AD. To decrease the government spending will decrease AD. If you want to keep the size of the government and reduce AD, then raise taxes and keep government spending as it is. If you want to reduce the public sector, then decrease the government spending.

Ratchet effect means that when something kicks off, the effects starts to act and it's difficult to stop it or to reverse it. So if you reduce AD, even if it's a little, the whole economy can be reduced even more than expected and end up reducing economy, therefore leading the GDP not to grow or even to a recession.