Question

Assume that millennials, who spend an average of RM100 a day, are expected to spend at a higher rate in the next ten to fifteen years. 37 percent of millennials report higher spending today than a year ago, while 42 percent of millennials say they are spending more. Furthermore, millennials are spending more on rent or mortgages and leisure activities than they were spending a year ago. Graphically illustrate the macroeconomic equilibrium after the change in spending by millennials: 

 a) If Malaysia’s economy operate below full employment equilibrium before the change in spending.       

   b) If Malaysia’s economy operate at a full employment equilibrium before the change in spending. 

Answer 1

A.

AD / AS Curve in Malaysia Price LRAS SRAS P1 E1 E P AD1 AD Q Qp Real GDP

When Millenials start spending, by that time the economy in Malaysia is at E. Due to increased levels of spending, AD curve shifts to the AD1 and potential output level is achieved at E1 as new long run equilibrium. Though, it increases the price level to P1 and potential output Qp is achieved.

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B.

AD / AS Curve in Malaysia Price LRAS SRAS EL P1 1 P AD1 AD Qp Q1 Real GDP

In this scenario, the economy is already at the potential output level at E. Now, increase in spending at this point, causes demand pull inflation to take place and AD curve shifts to the AD1 at E1 equilibrium. It is the condition of overheating of the economy at the increased price level of P1.

Now, it is important for the government of Malaysia to take action in terms of fiscal and monetary policy to help the economy achieve long run equilibrium again.