Question

Recently the canadian dollar has been appreciating and output has been growing rapidly. use the DD-AA model to provide a potential explaination of why this is happening. that is, what kind of underlying shifts in the economy must be taking place? Based on your answer, is expansionary monetary policy likely playing a major role in the recovery? (it might help to use a graph to illustrate your answer?)

Answer 1

The appreciation in currency and increasing output at the same time can only happen when there is a rightward shift in the DD curve. The rightward shift in the DD curve can be because of increase in the investment or decreases in taxes or by an exogenous increase in the net exports. The rightward shift in the AA curve would be made the currency weaker if the monetary policy played a major role. So here, monetary policy was not a major factor. The conclusion arises from the fact that relative monetary matters for the exchange rate policy of two countries. There must be an expansionary effect on output because of concurrent cut in the interest rate in both the countries with almost zero influence on the exchange rate.