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suppose the economy is at potential GDP(i.e. full employment), and the government increases fiscal spending(i.e. does...

suppose the economy is at potential GDP(i.e. full employment), and the government increases fiscal spending(i.e. does more government spending) to increase aggregate demand. what can be one potential drawback of this approach? use graphs to explain where relevant.

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One potential drawback of such an approach is that increased government spending can cause rise in the price level, due to right shift in the Aggregate Demand curve. Thus, this is now a situation of inflation, because of the extension along the long run aggregate supply curve. This kind of inflation is known as the demand - pull inflation, caused by the increase in Aggregate Demand. [See below graph]

Thus, A greater Aggregate Demand(AD2) outweighs a lower Aggregate Supply(AS). Hence, prices go up from P1 to P2, causing inflation.

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