what will be the effect of these changes on the economy? Show it on the graph.

Question

Assuming a closed economy;

a- If the interest rate decreases to 2% while reducing the public expenditure by 10 units, what will be the effect of these changes on the economy? Show it on the graph.

b- Graphically what will happen if the interest rate changes while public expenditure is constant?

Answer 1

Hi Clay,

Assuming a closed economy;

a- If the interest rate decreases to 2% while reducing the public expenditure by 10 units, what will be the effect of these changes on the economy? Show it on the graph.

a. Decreasing interest rates tend to encourage economic growth. Reducing public expenditure( - G) tends to discourage economic growth.

b- Graphically what will happen if the interest rate changes while public expenditure is constant?

a. If the interest rate rises while public expenditure is constant, Aggregate demand will shift left (decrease). If the interest rate falls while public expenditure is constant, Aggregate demand will shift right (increase).