Question

1. Draw the Purchasing Power of Money, the Price/Quantity and the Quantity of Loanable Funds graphs for the case of adecreasing supply of money and credit.

Answer 1

Decreasing supply of money and credit shift supply curve of loanable funds to its left from S to S1 which raise rate of interest from "i" to "i1" and reduce quantity of loanable funds from "L" to "L1"

It will reduce investment level as borrowing money would now be costlier because of higher rate of interest. Fall in investment level will result in fall in aggregate demand as aggregate demand and investment level have positive relationship with each other. It will reduce price level from "P" to "P1" while output level falls from "Y" to "Y1".

Fall in price from "P" to "P" raise purchasing power of consumers as they can now buy more units of goods using same money as before.