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When to Shift
Aggregate Demand = Consumer Spending
+ Business Investment
+ Government Spending
+ Net Exports
AD = C + I + G + (X – IM)
Aggregate Demand shifts to the left (AD1) when
any of the four decrease due to:
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Decreased expectations of future income
Decreased value of assets (wealth)
Businesses have substantial inventory on
hand
Increased taxes
Decreased government spending
Decreased money supply
Increased interest rates
Aggregate Demand shifts to the right (AD2) when
any of the four increase due to:
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Increased expectations of future income
Increased value of assets (wealth)
Businesses have little inventory on hand
Decreased taxes
Increased government spending
Increased money supply
Decreased interest rates
Short-Run Aggregate Supply responds to changes in
the price of inputs
SRAS shifts to the left (not displayed) when the
cost of inputs increase due to:
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Increased commodity prices (such as oil)
Increased nominal wages economy-wide
Decreased productivity
SRAS shifts to the right (SRAS1) when the cost of
inputs decrease due to:
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Decreased commodity prices (such as oil)
Decreased nominal wages economy-wide
Increased productivity
LRAS shifts to the right (LRAS) when there is
growth over time as a result of:
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Increased quality or quantity of resources
Increased human capital
Increased physical capital
Improvements in technology
For almost all questions, you will only need to shift
one curve (AD, SRAS, or LRAS) at a time. Many
mistakes on unit exams were made by shifting two
curves simultaneously.
When to Shift
Money Demand is depicted here as a curve, though
it may be represented as a line.
Quantity of money demanded decreases as
interest rates increase, which explains the
downward slope of MD curve.
Money Demand shifts to the right when:
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Aggregate price level increases
Real GDP increases
Banking laws make it advantageous to hold
money on hand
Money Demand shifts to the left when:
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Aggregate price level decreases
Real GDP decreases
Banking laws make it less advantageous to
hold money on hand
Changes in banking technology allows
increased access to deposits, making it less
necessary to hold money on hand
Money Supply is set by the Federal Reserve
through the use of its three tools (and the Money
Multiplier effect).
Money Supply shifts to the right in response to
expansionary monetary policy, including:
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The discount rate is reduced
The reserve requirement is reduced
The Fed buys bonds
Money Supply shifts to the left in response to
contractionary monetary policy, including:
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The discount rate is raised
The reserve requirement is raised
The Fed sells bonds
NOTE: Interest rates increase when money supply
decreases.
Interest rates decrease when money supply
increases. This is why use of expansionary
monetary policy offsets the “crowding-out effect.”
When to Shift
Production Possibilities Curve
Loanable Funds Demand shifts to the right when:
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Government borrowing increases
Private investment increases, often as the
result of perceived business opportunities
Loanable Funds Demand shifts to the left when:
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Government borrowing decreases
Private investment decreases
Loanable Funds Supply shifts to the right when:
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Private individuals and firms save more
money, making more deposits available for
banks to loan
Capital inflows increase
Loanable Funds Supply shifts to the left
when:
Private individuals and firms save less
money, making fewer deposits available for
banks to loan
Capital inflows decrease
REMEMBER: An increase in loanable funds demand
in response to government borrowing raises
interest rates, thus limiting private investment
borrowing. This is the “crowding-out effect.”
PPC shifts as a result of long-run growth or
contraction of an economy – in the same way as
the LRAS curve, and due to the same factors:
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Quality or quantity of resources
Human capital
Physical capital
Technology
Points on the graph reflect short-run decisions
regarding allocation of resources. Short-run
decisions that favor capital goods over consumer
goods lead to long-run growth; however, BOTH
capital and consumer goods must be produced
within an economy.
Short-run unemployment shows up as a point on or
inside the graph.
A point outside the graph represents a level of
production beyond what is actually possible given
current resources.
When to Shift
Foreign Exchange Market
Demand for Currency shifts to the right when:
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The economy is growing rapidly
Government policy/economic conditions
raise the interest rate
Foreigners want to loan funds in the
domestic market
An economy’s exports increase
A country’s currency is devalued (through
government action) or depreciates
Demand for Currency shifts to the left when:
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A country’s trading partner(s) experience
economic hardship
Government policy/economic conditions
lower the interest rate
An economy’s exports decrease
A country’s currency is revalued (through
government action) or appreciates
The key to FOREX is knowing which currency the
question is asking about and creating the right
model. Because every transaction has an effect in
two different markets, you may need two graphs to
represent a single transaction.
Supply of Currency shifts to the right when:
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Individuals and firms exchange their local
currency in order to purchase from or loan
funds in another country
Government policy increases the amount of
currency available (i.e., increasing their
foreign currency reserves by exchanging the
local currency for foreign currency)
Supply of Currency shifts to the left when:
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Individuals and firms reduce purchases
from and loans to another country
Government policy decreases the amount
of currency available (i.e., buying up local
currency using foreign currency reserves)
For instance, the graph above shows the market for
U.S. dollars in terms of yen. If you were asked what
effect an action would have on the value of yen,
you could not use this model. You would need to
draw a new model to measure the value of yen in
terms of U.S. dollars as well as the quantity of yen
trading.