Question

What might cause the Aggregate Demand curve to shift to the right? What does this mean for the state of the economy? What might cause the Aggregate Demand curve to shift to the left? What does this mean for the state of the economy?

Sometimes the Aggregate Supply curve is drawn as an upward sloping straight line--other times it is drawn initially flat, then upsloping, then very steep. How does the shape of the AS curve matter for the effect a rightward or leftward shift of the AD curve will have on real GDP and the price level? When do we expect a rightward shift of AD to cause inflation? When do we expect it to cause decreased unemployment?  (Hint: Draw this out on a piece of paper for yourself to see what's going on).''

Answer 1

Aggregate Demand curve shifts to the right when there is a fiscal expansion (rise in government spending, or reduction in taxes) or a monetary expansion (fall in interest rate that increases investment). It can also shift when there is increased business and consumer optimism.  

The economy experiences inflation and an increased output as a result so that there is an expansion in economy activities.

Aggregate Demand curve shifts to the left when there is a fiscal contraction (fall in government spending, or increase in taxes) or a monetary contraction (rise in interest rate that decreases investment). It can also shift when there is increased business and consumer pessimism.  

The economy experiences deflation and a decreased output as a result so that there is an contraction in economy activities.

The shape of the AS curve matters a lot for the effect a rightward or leftward shift of the AD curve will have on real GDP and the price level. This is because when AS is flat, we see a shift in the AD to the right causing higher output and lower unemployment with no change in prices. At the same time when AS is vertical, a shift in the AD to the right only raises price level and causes inflation with no change in output and employment.