Q. 15 If an economy鈥檚 self-correctin... [FREE SOLUTION]

Chapter 24: Q. 15 (page 655)

If an economy鈥檚 self-correcting mechanism works slowly, should the government necessarily pursue an activist policy to eliminate unemployment? Why or why not?

Short Answer

Expert verified

No, because if wages are increased in response to rising inflation, demand will be further pressed, resulting in an inflation cycle owing to demand pull inflation in the economy.

Step by step solution

Step 1. Introduction

A self-correcting mechanism is a system that allows an economy to stabilise at a point when there are no inflexible pricing or reduced wage rates. It works with the economy's self-correcting nature of demand and supply.

Self-correcting demand and supply is a process in which the economy spontaneously fills demand and supply gaps as a result of a good's demand pressuring its supply to increase or an excessive supply pressuring its demand to rise.

Discretionary policy is an economic policy in which a country's government makes numerous changes to economic elements such as expenditure and salaries in order to stabilise the economy before it automatically corrects.

Demand pull inflation is a type of inflation that occurs when the demand for products and services exceeds the supply of those goods and services.

Step 2. Explanation

To overcome the delayed self-correcting mechanism, the government of a country does not need to get involved in discretionary policy implementation in the economy. Other imbalances are created as a result of discretionary policy adjustments in factors such as salaries or pricing, further destabilising the economy. For example, if wages are increased in response to rising inflation, demand will be further pressed, resulting in an inflation cycle owing to demand pull inflation in the economy.

As a result, it is not necessary for a country's government to employ discretionary measures in order to combat the economy's delayed self-correcting mechanism.