Monetary Expansion and Aggregate Demand

B

Under a monetary expansion, individuals posses more money balances. Since they invest/save more and consume more, aggregate demand increases due to increased consumption.

Under a monetary expansion, aggregate demand can be expected to rise.

Monetary expansion refers to an increase in the money supply within an economy. It is typically implemented by central banks through measures such as lowering interest rates, purchasing government bonds, or implementing quantitative easing programs. The primary goal of monetary expansion is to stimulate economic activity and promote growth.

When the money supply increases, it leads to an increase in the availability of funds for borrowing and spending. This, in turn, encourages consumption and investment in the economy, which leads to an increase in aggregate demand. Aggregate demand represents the total amount of goods and services demanded by households, businesses, and the government within an economy.

There are several channels through which monetary expansion affects aggregate demand:

1. Lower interest rates: When central banks lower interest rates, it becomes cheaper for individuals and businesses to borrow money. Reduced borrowing costs encourage consumers to take out loans for purchases, such as buying homes or cars, and businesses to invest in expansion projects or equipment. This increased borrowing and investment contribute to a rise in aggregate demand.

2. Increased consumer spending: When interest rates are low, it becomes more attractive for individuals to finance their purchases through borrowing. This can lead to increased consumer spending on goods and services, which contributes to higher aggregate demand.

3. Boost to business investment: Lower interest rates incentivize businesses to borrow money for investment purposes. This can include expanding production capacity, upgrading technology, or launching new projects. Increased business investment contributes to higher aggregate demand as it creates additional demand for inputs, such as labor and capital goods.

4. Wealth effect: Monetary expansion can also lead to an increase in asset prices, such as stocks and real estate, due to increased liquidity and reduced interest rates. This rise in asset prices enhances the wealth of households, which, in turn, increases their propensity to spend. Higher consumer spending, driven by the wealth effect, contributes to the overall rise in aggregate demand.

Overall, under a monetary expansion, the increase in the money supply stimulates borrowing, spending, and investment, which leads to a rise in aggregate demand. Therefore, the correct answer to the question is B. rise.