Question

How does easy money affect (a) interest rates, (b) the money supply, and (c) aggregate demand? How does tight money effect them?

Answer 1

In a tight monetary policy situation, the central bank will reduce the money supply leading to a higher interest rates and lower AD as business will cut back on investments due to higher interest rates.

In an easy monetary policy situation, the central bank will increase the money supply, leading to lower interest rates and higher AD as consumption becomes attractive and business will borrow and increase investments.

	Interest rates	Money supply	AD
Tight or contractionary monetary policy	Higher	Decrease	Decrease
Easy or expansionary monetary policy	Lower	Increase	Increase