Economics – Demand and supply curves | e-Consult
Demand and supply curves (1 questions)
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Answer 2
(a) A decrease in consumer confidence leads to a reduction in consumer spending, which is a component of aggregate demand. This results in a decrease in overall demand, leading to:
- Equilibrium Price Level: The equilibrium price level will fall. Reduced demand puts downward pressure on prices.
- Real Output: The equilibrium real output (GDP) will also fall. Lower demand leads to reduced production.
(b) The AD-AS diagram illustrates this as a leftward shift in the aggregate demand curve. The new AD curve is to the left of the original. The intersection of the new AD curve with the AS curve determines the new equilibrium price level and real output.
(c) Potential policy options include:
- Expansionary Fiscal Policy: The government could increase its spending or cut taxes to boost aggregate demand. This would shift the AD curve back to the right, increasing both the price level and real output. However, it could lead to increased government debt.
- Expansionary Monetary Policy: The central bank could lower interest rates to encourage borrowing and investment. This would also shift the AD curve back to the right. However, it may be less effective if consumers and businesses are unwilling to borrow, or if the policy is delayed.
- Supply-Side Policies: Policies aimed at increasing the economy's productive capacity (e.g., investment in education, infrastructure, and technology) can shift the AS curve to the right. This can help to increase real output without necessarily causing inflation. However, these policies often have longer-term effects.