Question

There is an increase in the economy's productive capacity if there is:

• A. An increase in Government spending
• B. A decrease in Government spending
• C. An increase in the economy's capital stock
• D. An increase in the economy's rate of capital replacement

Hint:

Productive capacity is a long-run supply-side concept. To expand it, you need more inputs—specifically, a higher net capital stock or improved technology.

Answer 1

The Correct Option is C

Step 1: Understanding the Concept:
The productive capacity (or potential output) of an economy is the maximum level of output it can sustain over the long run without triggering inflation.

Step 2: Detailed Explanation:
The productive capacity of any economy is determined by the supply and quality of its productive factors: land, labor, capital, and technology.
- Government spending (Options A and B) primarily influences aggregate demand in the short run rather than expanding the physical supply of resources.
- Capital replacement (Option D) merely replaces worn-out capital (depreciation) and does not add new capacity.
- An increase in the physical stock of capital (net investment) like factories, machinery, and infrastructure directly enhances the economy's ability to produce more goods and services, thus expanding its long-run productive capacity.

Step 3: Final Answer:
An increase in the economy's capital stock expands productive capacity, matching Option (C).