Consider the following:The US public debt now stands at approximately $22 trillion, making the country the...

Consider the following:The US public debt now stands at approximately $22 trillion, making the country the largest debtor nation in the world. Current US real GDP is approximately $19.5 trillion. One option for debt repayment for the US central bank is to create new money and then pay debt holders as needed.

What effect would pursuit of this option have on long run inflation in the US?

Solutions

Expert Solution

If the option for debt repayment for the US Central bank is made which would create new money and then pay debt holders as needed, then the pursuit of this option would have a negative long run effect on the inflation in the US.

If more money is printed without any increase in the national output, then the money supply in the economy would increase in the long run and more demand is created in the economy. This would lead the prices to increase very much as the aggregate demand would increase but the aggregate supply would remain the same as before. So, the rate of inflation would increase drastically and can also lead the people in the US to lose confidence in the government. This is because a high rate of inflation leads to fall in the value of people's savings and bonds purchased and there would be uncertainty among the people regarding information on prices. A situation of hyperinflation can also occur if the government prints too much money. So, settling the debt by printing too much money should not be taken as an option for the US government to settle it's debt.

Rahul Sunny answered 6 months ago

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