Question

Suppose that the economy is experiencing a recessionary gap. If you believe in "small government", then the most appropriate policy would be to __________

a) Raise income taxes
b) Lower income taxes
c) Raise government spending
d) Lower government spending

Answer 1

The appropriate response to a recessionary gap is for the government to reduce taxes or increase spending.

Step-by-step explanation:

The appropriate response to a recessionary gap is for the government to reduce taxes or increase spending so that the aggregate expenditure function shifts up from AEo to AE₁. When this shift occurs, the new equilibrium E₁ now occurs at potential GDP.