There is an inflationary gap when (LO1) a) equilibrium GDP is equal to full-employment GDP b) equilibrium GDP is smaller than full-employment GDP c) equilibrium GDP is larger than full-employment GDP d) none of these occur

Equilibrium GDP is the level of GDP (Gross Domestic Product) where total demand equals total supply. This means that the economy is in balance and there is no shortage or surplus in the market. Full-employment GDP is the level of GDP when all resources, including labor, are fully utilized. This means that there is no involuntary unemployment.

The task is to determine which of the options correctly describes an inflationary gap. a) In option (a), equilibrium GDP is equal to full-employment GDP, which means that the economy is in balance with no inflationary pressures. This option does not represent an inflationary gap. b) In option (b), equilibrium GDP is smaller than full-employment GDP. This situation results in an output gap, where the economy is operating below its full-employment potential. This situation is referred to as a recessionary gap rather than an inflationary gap. c) In option (c), equilibrium GDP is larger than full-employment GDP. This scenario indicates that the overall demand for goods and services in the economy is greater than what can be supplied at the full employment level. As a result, there is excess demand in the market leading to inflationary pressures. This option correctly describes an inflationary gap. d) Option (d) suggests that none of the given options occur. However, as we found out in our analysis that option (c) is a correct representation of an inflationary gap, this option is not valid.

Based on our analysis of the four options, we can conclude that the correct answer to this exercise is option (c): An inflationary gap occurs when equilibrium GDP is larger than full-employment GDP.