Question

how sharp drop in house prices affect aggregate demand and aggregate supply?

Answer 1

House Prices- Aggregate Demand & Supply
The economic performance affecting the aggregate demand and supply functions have direct relationship with the confidence of the consumer. A reduced confident on the economy will leads in reduction in the growth of the economy. In the case of house prices, he consumers may gain confidence when house prices go high. The rise in price will encourage consumers to spend more and leading higher economic growth. Similarly, a huge drop in house prices can affects the consumer confidence thus leading to lower economic growth.
The confidence directly affects with the investment in housing or a construction sector. A drop in price can affect the level of investment seeing the possibility of better earnings. A low price could not help in attracting investments thus expanding the economy. A larger price can affect the investment and thus expand the economy by shifting the aggregate demand and supply.
Also, the drop in price could affect other investment parts including the bank sector. Banks feels the chance of decreasing value of their assets on a drop in the house prices. An increasing price level could only help the banks to trust enough on their assets. This can lead to expand the economy. The huge drop in the price could shift aggregate demand and supply downwards showing a lower growth of the economy