The question asks about the impact of an increased money supply when an economy is already operating at its potential GDP.

Understanding Potential GDP

Potential GDP represents the maximum sustainable output an economy can produce with its available resources and technology. Operating at potential GDP implies the economy is at or near full employment and utilizing its resources efficiently.

Impact of Increased Money Supply

An increase in the money supply typically leads to:

• Lower interest rates (initially).
• Increased borrowing and spending by consumers and businesses.
• A rightward shift in the Aggregate Demand (AD) curve.

Inflationary Pressure at Potential GDP

When the economy is already producing at its potential GDP:

• Resources are fully employed, making it difficult to increase real output significantly.
• An increase in Aggregate Demand (caused by the higher money supply) leads to producers raising prices rather than substantially increasing production.
• This situation, where increased demand chases a relatively fixed supply of goods and services, causes prices to rise.

Identifying the Inflation Type

The type of inflation described is Demand-pull inflation. This occurs when aggregate demand outpaces aggregate supply, pulling prices upward. The increased money supply fuels this excess demand.

Evaluating Other Options

• Stagflation involves high inflation, high unemployment, and slow economic growth, which is not the direct result of increased money supply at potential GDP.
• Structural inflation arises from fundamental economic changes, not monetary policy shifts.
• Cost-push inflation results from increases in production costs, like wages or raw materials, shifting the Aggregate Supply curve leftward, which is different from the demand-driven scenario.

Therefore, an increase in money supply when the economy is at potential GDP leads to demand-pull inflation.