Question

A policymaker claims that tax cuts led the economy out of a recession. Can we use the AD/AS diagram to show this?

Short answer

A tax cut during the recession will lead the economy out of it by a shift in the AD curve.

Step-by-step solution

Step 1. Definitions.

The total quantity of output (i.e. real GDP) firms will produce and sell is aggregate supply

The amount of total spending on domestic goods and services in an economy is aggregate demand.

Step 2. Impact on AD/AS curve.

When there is a tax cut, investment and consumer spending increases depending on the time of the cut. A tax cut during the recession will lead the economy out of it by a shift in the AD curve.