Question

Which statement best describes the likely effects of an expansionary fiscal policy?

It can increase interest rates and unemployment, but lower inflation.
It can increase interest rates, unemployment and inflation.
It can reduce interest rates and inflation, but increase unemployment.
It can reduce interest rates and unemployment, but increase inflation.

Answer 1

None of the four choices is exactly right. Expansionary fiscal policy typically raises aggregate demand, which tends to raise inflation and lower unemployment; it also often raises interest rates via crowding out. So the correct effects are: higher interest rates, higher inflation, and lower unemployment.

If you must pick one of the four given options, option 2 is closest on interest rates and inflation (but it incorrectly states unemployment rises).