(1) increase the wealth of people holding a fixed quantity of money (2)reduce the real rate...

(1) increase the wealth of people holding a fixed quantity of money

(2)reduce the real rate of interest

(3)make domestically produced goods cheaper than those produced abroad

Explain WHY each of the factors that our authors list as those that affect Aggregate Demand and Short Run Aggregate Supply, and Long Run Aggregate Supply can cause those curves to shift.

Expert Solution

1. Increase in wealth of people leads to increase consumption expenditure, hence, aggregate demand for goods rises at each interest rate, shifting the aggregate demand curve to the right.

2. Reducing the real interest rate decreases the cost of borrowing causing private investment and household expenditure to increase. Also, a decrease in real interest rate reduces the attaractiveness of the economy to foreign investors causing an increase in net capital outflow which leads to fall in demand for domestic currency causing it to depreciate. This leads to a fall in prices of exports but rise in prices of imports causing net exports to increase. Thus, all of these three components, private investment, household expenditure and net exports, leads to an increase in aggregate demand causing a rightward shift in aggregate demand curve.

3. Reducing coat of production in home country relative to the foreign country leads to increase in profits of producers causing an increase in short run aggregate supply shifting short run aggregate supply curve to the right. Also, now because domestically produced goods are cheaper, so, exports increase, improving the net exports component of aggregate demand shifting aggregate demand curve to the right.

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Rahul Sunny answered 8 months ago

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