Question

Explain the change in aggregate demand when:

a. Government expenditure on goods and services increases by $100 Billion

b.Taxes are increased by $100 Billion

c. Both 1 and 2 occur simultaneously

Answer 1

If we talk about monetary policy then THE FED decide it according to the need of the economy

It generally adopts for two type of policies that are Exapnsionary and Contractionary monetary policy

For example, if economy is under recession then it adopts for the Expansionary monetary policy by lowering the interest rates and increase the money supply and aggregate demand

1.

As explained in formula in A4 sheet it can be clearly seen that aggregate demand is dependent on marginal propensity to consume and change in government expenditure.

So when there is increase in the government expenditure by$100 billion dollars then this will lead to have more aggregate demand in the short run causing the shift of aggregate demand curve to the right

2.

In second case where taxes are increased $100 billion dollar then the same formula will be applied as in question number 1 but here the aggregate demand will fall and there is leftward shift of the aggregate demand curve

3

In the last case it goes if both event occurs simultaneously then there will be no effect on the aggregate demand as both cancel each other