If the economy has a negative output gap then the government

If the economy has a negative output gap, then the government could use fiscal policy to return to full employment by doing which of the following?

Solution

? The negative output gap occurs in the economy when the actual level GDP fall short of the potential GDP. The fiscal policy or the moneytary policy can be used to correct this gap. The fiscal policy is the policy of the government so they can use either government soending or taxation to correct this gap.

When the government increases the spending it will add more money to the economy so they spend and invest more so this inturn increases the aggregate demand in the economy, the aggregate demand curve will shift to the right. So this will help to eliminate the negative output gap.

In the case of taxation there must be a cut in the taxation to avoid this gap, an increase in the tax will worsen the situation.