CA Foundation · Business Economics · Business Cycles
According to Keynesian thinking, a fall in aggregate demand during a downturn is likely to be reduced most effectively through which action by the government?
Increasing public capital expenditure on infrastructure is correct. During a downturn aggregate demand is deficient, so expansionary fiscal policy raises incomes and demand through the multiplier. Higher taxes, spending cuts or a higher cash reserve ratio are contractionary and would worsen the recession instead of curing it.
- ARaising income tax rates to cut the fiscal deficit
- BIncreasing public capital expenditure on infrastructureCorrect
- CCutting government spending to reduce inflation
- DReducing the money supply by raising the cash reserve ratio
Explanation
In a downturn, demand is deficient, so the government should raise spending or cut taxes. Higher public capital expenditure raises income directly and through the multiplier. The other options reduce demand or money supply and would deepen the slump.
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