Answer to Question #109960 in Macroeconomics for kgothatso

Question

Assuming that South Africa economy experience a severe recession due to COVID-19. The SARB makes use of monetary policy to increase AD to boost the production level (GDP).
Explain by the use of graphs, the impact of such monetary policy on aggregate output. In your explanation, describe the interaction between the Money market, IS-LM and AD-AS Model

Answer 1

Expansionary monetary policies increases the level of aggregate demand, through either lowering intrest rates or increased supply of money.

Expansionary policy can does this by increasing consumption by lower intrest rates which makes money more affordable.Increasing investment spending by increased supply of money.

The intersection of aggregate demand (AD0) and aggregate supply (SRAS0) is occurring below the level of potential GDP as the LRAS curve indicates. At the equilibrium (E0), a recession occurs and unemployment rises. In this case, expansionary monetary policy using reduced intrest rates and increased money supply shift aggregate demand to AD1, closer to the full-employment level of output. In addition, the price level would rise back to the level P1 associated with potential GDP.

Expansionary monetaryPolicy

The original equilibrium (E0) represents a recession, occurring at a quantity of output (Y0) below potential GDP. However, a shift of aggregate demand from AD0 to AD1, enacted through an expansionary monetary policy, can move the economy to a new equilibrium output of E1 at the level of potential GDP which the LRAS curve shows. Since the economy was originally producing below potential GDP, any inflationary increase in the price level from P0 to P1 that results should be relatively small.