If there is spare capacity (negative output gap), then demand side policies can play a role in increasing economic growth. For example if we decrease interest rates, we will increase the demand in the economy as people have more money as their mortgage costs are decreased. It is the same idea with lowering taxes - this will boost demand, as people have more money to spend as less is taken away from them by the government. Aggregate demand is made up of consumption (consumer spending, Investments Government spending and Exports (minus) imports (Net exports). If anything affects these factors will result in affecting the demand.
The Components for Aggregate Demand are C (consumption)+ I (income)+ G (government spending)+ (X-M) (net exports) and a change in the components of Aggregate demand will cause a shift of the curve. Fiscal policy is a type of economical intervention where the government injects its policies into an economy in order to either expand the economy’s growth or to contract it. By changing the levels of spending and taxation, a government can directly or indirectly affect the aggregate demand. Fiscal policy can be used in order to either stimulate a sluggish economy or to slow down an economy that is growing at a rate that is getting out of control. There are two types of Fiscal policy put in place to alter the level of aggregate demand; Expansionary fiscal policy and Contractionary fiscal policy.
These are designed to increase the level of AD and increase in national income. Lower taxation/higher government spending or lower interest rates will encourage more consumption. The diagram shows an increase in real GDP (economic growth) and a falling output gap. We would expect there to be a fall in unemployment. Therefore two objectives have been met.
Within this essay, I will be discussing the advantages of this happening as well as the disadvantages that may occur. Furthermore, to understand the question, we must first understand what economic growth is. It is an increase in the capacity of an economy to produce goods and services, compared from one period of time to another. Firstly, the propensity to consume will increase. This is because the proportion of income spent for the poorer is higher so the redistribution of income will increase consumption and therefore increase aggregate demand.
At last, achieve aggregate demand and aggregate supply to be an ideal balance. Monetary policy is divided into two types: expansionary and tightening. Aggressive monetary policy is to stimulate aggregate demand by increasing the speed of the money supply growth. In this policy, it is easier to obtain the credit, and the interest rates will reduce. Therefore, when the aggregate demand compared with the economic production capacity is quite low, expansionary monetary policy should be taken into use appropriately.
Xiaodong Liu Compare and Contrast Two Schools of Thought on Supply-Side Policies The possession goal of supply-side policies is increasing an economy’s productive potential and its ability to produce. Most supply-side policies aim to enable the free market to work more efficiently by reducing government interference. Also the supply-side policy includes any policy that can improve the productive capacity of the economy. These policies can be divide be two schools: market-oriented policies and interventionist policies. Market-Oriented supply-side policies are changed when the government reduces ordinance and make the market to work more freely.
This is an effect of a lower opportunity cost as the overall cost associated with borrowing has decreased and the marginal benefit of saving has increased, meaning consumers will receive more of a benefit if they purchase goods on credit based agreements opposed to saving, leading to an increase in the amount of credit transactions. This leads to consumer expenditure increasing significantly, meaning more goods are being consumed. Therefore, as consumer expenditure is a component of the aggregate demand formulae an increase in consumption would thereby lead to an increase in aggregate demand. However that said, an increase in consumption largely depends on the consumers’ marginal propensity to consume (MPC) and the overall confidence of consumers. Therefore, if MPC and consumer confidence is at a low, consumers will spend less and save more therefore resulting in a decrease in total consumption levels.
For example, if the prices levels are too high, manufacturers will hope to turn great profits and increase supply by making more products. However, these high prices mean consumers will want to buy less. On the other hand, if prices levels are too low, manufacturers will not want to make more goods. Consumers, however, will want to buy more at this low price, and a shortage may result. There are differences between shifts of demand/supply curves and movements along demand/supply curves.
The law of demand tells us that an increase in price will cause the quantity demanded to decrease whereas the law of supply states that if price increases the quantity supplied increases as well. The opposite is true in both instances. Price elasticity of demand tells us how much of a change in demand arises with the fall or increase in price. Price elasticity of supply is the degree of sensitivity of production with the change in price. It is easier to measure elasticity in percentages because it allows for greater comparability.
The fed has to set a lower reserve requirement, which allows banks to loan out more money, which generates more interest, which could lead to periods of inflation and could have worse consequences if the government does not react quickly enough. Inflation would decrease the purchasing power of an individual's money, which would lead to more saving and less spending. (Fried) Less spending would mean less money being injected into the circular flow of our economy and would lead to economic crisis. However, many critics also use this to determine how national debt does not have a huge impact on the economy. A huge national debt has no effect on the money market.