Problem 5 According to classical economist... [FREE SOLUTION]

Chapter 9: Problem 5

According to classical economists, does an increase in saving shift the \(A D\) curve to the left? Explain your answer.

Short Answer

Expert verified

Yes, according to classical economists, an increase in saving does shift the AD curve to the left due to a decrease in consumption.

Step by step solution

Defining the AD curve

The Aggregate Demand (AD) curve is a macroeconomic concept that illustrates the total amount of goods and services that households, businesses, and the government are willing to purchase at each price level. The AD curve is downward sloping, which means as the price level decreases, the quantity of goods and services demanded increases, and vice versa.

Understanding what shifts the AD curve

A shift of the AD curve can happen due to many factors, commonly called the determinants of aggregate demand. They include changes in consumer expectations, fiscal policy, monetary policy, foreign income and investment etc. Essentially, any changes in consumption, investment, government spending or net export can shift the AD curve.

Analyzing the effect of increased saving

When there's an increase in saving, it means that households are consuming less because a part of their income is now going into savings. Hence, consumption decreases. Since consumption is a component of aggregate demand, a decrease in consumption will lead to a decrease in aggregate demand.

Concluding the effect on the AD curve

Since an increase in savings leads to a decrease in consumption, and consumption is a component of aggregate demand, an increase in saving would shift the AD curve to the left.