Question

Read pp. 636-638 of you textbook (22.3. Shifts in the Aggregate Demand Curve) and answer the following question. Suppose the government raises consumption taxes. How would this policy affect aggregate demand? Would raising consumption taxes increase or decrease aggregate demand? Why? Please note that there is only one answer I am looking for for this assignment, and ensure you apply relevant economic concepts and theory to receive full credit.

Please do not refer to or cite other sources except your textbook. You should be able to find reasonable arguments from pp. 636-638 of your textbook. Do not provide direct quotes from the textbook. You must paraphrase everything you cite from the textbook.

(Due: Day 4(Thursday) by 11:59pm; word count: minimum 300 words)

Answer 1

In macroeconomics, AGGREGATE DEMAND refers to the demand for all the goods and services produced in the economy during a period of time. It is affected by a lot of factors in the economy.

Here, the government raises consumption taxes and we assume that the income of the consumers remain same. now, when the government increase the taxes, people will be able to buy less amount of the same good in the same price. Here, the real income of the consumers will decline and the purchasing power of people will reduce. which means that increase in consumption taxes leaves lesser disposable income with the people. It reduces their capacity to spend even when their propensity to spend remains same. Lower disposable income means people will be willing to buy less amount than they were buying earlier which results in lower level of aggregate demand. It decreases the level of aggregate demand. This will in turn result in the situation of deficient demand. And the demand curve will shift leftwards.

Given below is a graphical representation of the above situation.

y refers to the expenditure.

AD0 is the initial aggregate demand curve.

AD1 is the aggregate demand curve after increase in consumption taxes.

demand shrinks from Q0 to Q1.

y expenditure ADO Aggregate Demand {c+1 YT ADI 3130 Income foutput Cyop)