Suppose that survey measures of consumer confidence Indicate

Suppose that survey measures of consumer confidence Indicate a wave of pessimism Is sweeping the country. If policymakers do nothing, what will happen to aggregate demand? What should the Fed do If It wants to stablze aggregate demand? If the Fed does nothlng, what might Congress do to stabillze aggregate demand? Would these monetary and fiscal policies be considered expanslonary or contractlonacy? How would critics of active monetary and fiscal policy respond to the above proposals to stabillze aggregate demand?

Solution

If policymakers do nothing the pessimism in investor sentiment will lead to fall in aggregate demand of the economy. In order to stabilize aggregate demand in the economy the Fed should increase the amount of money supplied in the economy which will lead to increase in aggregate demand. Congress can stabilize aggregate demand by increasing government expenditure or reducing taxes in the economy. These monetary and fiscal policies are used to increase the level of aggregate demand in the economy and thus are considered expansionary.

Critics might suggest that expansionary fiscal and monetary policy will lead to increase in price level and thus increase inflation rate in the economy.