Exam 34: The Influence of Monetary and Fiscal Policy on Aggregate Demand

When the government cuts personal income taxes, for instance, it increases households' take home pay. As a result:

The opportunity cost of holding money is the

Suppose that consumers become pessimistic about the future health of the economy. What will happen to aggregate demand and to output? What might a government have to do to keep output stable?

According to the theory of liquidity preference, if the interest rate is above the equilibrium level, the quantity of money people want to hold is less than the quantity the central bank has created, and this surplus of money puts upward pressure on the interest rate.

Although many factors determine the quantity of money demanded, the one emphasized by the theory of liquidity preference is the interest rate.

An increase in the interest rate reduces the quantity of goods and services demanded. As a result:

When the central bank has lowered or raised interest rates, this occurs only because the central bank's bond traders are:

If a country's central bank increases the money supply, the aggregate demand curve shifts to the left.

Explain how a transfer payment like unemployment benefit acts as an automatic stabilizer.

When the government cuts spending, aggregate demand will fall, this will depress production and employment in the short run

An increase in the interest rate raises the opportunity cost of holding money. There is an incentive, therefore, for people to exchange cash holdings for interest-bearing deposits and this, as a result:

Originally developed by John Maynard Keynes in the 1930s, the theory of liquidity preference holds that the interest rate adjusts to bring money supply and money demand into balance.

A monetary expansion would reduce interest rates, stimulate investment spending and __________.

Describe the process in the money market by which the interest rate reaches its equilibrium value if it starts above equilibrium.

If a country's central bank contracts the money supply, the aggregate demand curve shifts to the left.

The response of monetary policy to a change in fiscal policy is an example of a more general phenomenon: the use of _______________ to steady aggregate demand and, as a result, production and employment.

When the interest rate falls:

In addition to the multiplier and crowding-out effects, a tax change is a determinant of the size of the shift in the aggregate demand curve. Why would perceptions about whether the tax change is permanent or temporary affect the size of the shift?

At higher interest rates:

Use the money market to explain the interest-rate effect and its relation to the slope of the aggregate demand curve.