Shift Factors of Aggregate Demand

We have defined the aggregate demand in our last posts .Let us now discuss the factor that shifts the aggregate demand. In the most simplest way , any factor either external or internal that effects “Consumption, Investment or Government Expenditure” will shift the aggregate demand upward or downward. Now there are many shift factors that could possibly effect C,I or G. But one of the most important factors are the policy instruments of :

· Fiscal policy

· Monetary policy

Fiscal And Monetary Policy

The word fiscal come from the root word “FISC” which refers to the “Treasury” of a government. Fiscal Policy is one of the policy instruments of Macroeconomics that deal with  government spending and taxing policies.  Monetary policy refers to the maintenance and behavior of money supply , credit and central bank policies. We will further be discussing these two policy instruments  in detail in the upcoming posts. But the logic behind these being a shift factor of Aggregate demand is quiet simple.

If Taxes are raised in Fiscal policy . This effect will lead to a decrease in consumption. Which as a result will Shift the Aggregate Demand curve downwards. Graphically:

 

agg demand tax shift

 

Now lets have a look at the Effect of Govt Expenditure. An increase in Govt Expenditure will as a consequence lead to an increase in the investment that as a result will move the aggregate demand curve upwards. Graphically:

agg demand shift

Thus we see that fiscal policy bring various changes in consumption, Govt Exp and Investment which shows an upward or downward movement in Aggregate Demand Curve. A downward effect of Aggregate will result a slow down of Production(Growth) in economy.

On the other hand , Monetary Policy Effects the Aggregate Demand through Interest Rate. We already know that an increase in interest rate will Decrease Investment or vice versa. But the effect of Fiscal policy over the economy differs from the effect of Monetary Policy over an economy. It depends on the economic Situation of Every country. Interest rate has a great level of effect over the economy which leads to changes in investment that will also change Aggregate demand .

agg demand tax shift

Our next topic will cover up Aggregate Supply and its determinants.