QuestionIf an economy is in long-run equilibrium, which of the following combinations of policy actions will necessarily result in inflation in the short run?ResponsesDecreasing administered interest rates and increasing government spendingDecreasing administered interest rates and increasing government spendingIncreasing the discount rate and decreasing income taxesIncreasing the discount rate and decreasing income taxesIncreasing the required reserve ratio and increasing the discount rateIncreasing the required reserve ratio and increasing the discount rateSelling government bonds on the open market and decreasing government spendingSelling government bonds on the open market and decreasing government spendingBuying government bonds on the open market and decreasing government spending
Question
QuestionIf an economy is in long-run equilibrium, which of the following combinations of policy actions will necessarily result in inflation in the short run?ResponsesDecreasing administered interest rates and increasing government spendingDecreasing administered interest rates and increasing government spendingIncreasing the discount rate and decreasing income taxesIncreasing the discount rate and decreasing income taxesIncreasing the required reserve ratio and increasing the discount rateIncreasing the required reserve ratio and increasing the discount rateSelling government bonds on the open market and decreasing government spendingSelling government bonds on the open market and decreasing government spendingBuying government bonds on the open market and decreasing government spending
Solution
The combination of policy actions that will necessarily result in inflation in the short run when an economy is in long-run equilibrium is "Decreasing administered interest rates and increasing government spending".
Here's why:
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Decreasing administered interest rates: Lower interest rates make borrowing cheaper. This encourages businesses to invest more and consumers to spend more, increasing the overall demand in the economy.
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Increasing government spending: When the government spends more, it injects more money into the economy, which increases the overall demand.
Both of these actions increase the demand in the economy. If the supply doesn't increase at the same rate, the prices will go up, leading to inflation.
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