Question 496 points) Suppose that banks are less able to raise funds and so lend

Question

Question 496 points) Suppose that banks are less able to raise funds and so lend less. Consequently, because people and households are less able to borrow, they spend less at any given price level than they would otherwise. The crisis is persistent so lending should remain depressed for some time. Suppose instead that the Federal Reserve responded to the financial crisis to move GDP and prices back toward potential. What action would they take and which curve would shift in what direction? Increase money supply lowering interest rates. AD right Decrease money supply lowering interest rates. AD left Increase money supply lowering interest rates. AD left Decrease money supply lowering interest rates. AD right

Explanation / Answer

Option 1. Increase money supply lowering interest rates, AD right

Explanation: When AD shifts left because of lack of loanable funds with banks, the FED would increase money supply to stimulate aggregate demand. Increased money supply would lower interest rate and increase aggregate demand. So, AD would shift right.

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