If the Reserve Bank of Australia pursues expansionary monetary policy, ceteris paribus, aggregate demand will: a. rise by less than it otherwise would have and the price level will rise by less than it otherwise would have. b. fall by more than it otherwise would have and the price level will fall by more than it otherwise would have. c. fall by less than it otherwise would have and the price level will rise by less than it otherwise would have. d. rise by more than it otherwise would have and the price level will rise by more than it otherwise would have.
Question
If the Reserve Bank of Australia pursues expansionary monetary policy, ceteris paribus, aggregate demand will:
a. rise by less than it otherwise would have and the price level will rise by less than it otherwise would have.
b. fall by more than it otherwise would have and the price level will fall by more than it otherwise would have.
c. fall by less than it otherwise would have and the price level will rise by less than it otherwise would have.
d. rise by more than it otherwise would have and the price level will rise by more than it otherwise would have.
Solution
The correct answer is:
d. rise by more than it otherwise would have and the price level will rise by more than it otherwise would have.
This is because an expansionary monetary policy by the Reserve Bank of Australia would involve measures such as lowering interest rates or increasing the money supply. These actions would make borrowing cheaper and increase the amount of money circulating in the economy, which would encourage more spending by households and businesses. This increase in spending would lead to an increase in aggregate demand.
As aggregate demand increases, businesses would respond by increasing production to meet the higher demand. This increase in production could lead to higher employment and wages, further boosting spending and aggregate demand.
However, if the increase in aggregate demand outpaces the economy's ability to produce goods and services, it could lead to inflation, causing the price level to rise. Therefore, both aggregate demand and the price level would rise by more than they otherwise would have.
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