For each of the examples below, determine the effect on aggregate demand. a. In
ID: 1223037 • Letter: F
Question
For each of the examples below, determine the effect on aggregate demand.
a. In order to reduce the deficit, the government decides to increase the level of taxes in the economy.
b. The economy experiences a sustained expansion in stock prices for the majority of companies in the country.
c. All European countries experience an economic expansion, raising incomes in each of the European countries.
d. The government decides to decrease the amount it spends on the military.
This will cause an increase in aggregate demand, shifting the aggregate demand curve to the right. This will cause a decrease in aggregate demand, shifting the aggregate demand curve to the left. This will cause a movement along the aggregate demand curve to the left, showing a decrease in the quantity of real GDP demanded. This will cause a movement along the aggregate demand curve to the right, showing an increase in the quantity of real GDP demanded.Explanation / Answer
Answer a:
Option B. Increase in the taxes will shift the aggregate demand to the left. This is because increase in the taxes will reduce the disposable income of the consumers. Reduction in the disposable income will lower the consumption expenditure of the consumers. Reduction in the consumption expenditure will shift the aggregate demand to left as Consumption expenditure is one of the components of the aggregate demand.
Answer b:
Option B.
Sustained expansion in the stock prices will lead to pessimistic attitude among the investors. They will invest more and more money. Thus, investment level in the economy will rise. Rise in the investment level will raise the aggregate demand in the economy which is given by the sum of Consumption Expenditure, Investment expenditure ,government expenditure and net exports of the economy.
Answer c:
Option C.
Increase in the income level of the economy will lead to increase in the overall aggregate demand in the economy. This is because increase in the income level will increase the consumption expenditure of the individuals which is positively related to the disposable income of the consumers. Thus, aggregate demand will shift to the right.
Answer d:
Option B.
This will cause a decline in the capital expenditure of the government. Thus overall decline in the government expenditure . This will lower the level of aggregate demand in the economy which has government expenditure as one of its components.
Any movement along the AD curve will occur when there is change in the price level in the economy. In all other case, the AD curve will shift.
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