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Briefly explain whether the following statement is true or false. "The ‘paradox of thrift’ is the...

Briefly explain whether the following statement is true or false.

"The ‘paradox of thrift’ is the argument that an increase in desired saving shifts the LM curve to the left as individuals increase their demand for money, thus lowering real GDP."

Please answer elaborately with proper reasoning, graphs and equations. Also include a policy example.

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Answer #1

Paradox of thrift says that as savings rises which reduces overall spending in the economy.

Aggregate demand = Consumption + Investment + Government spending + Exports - Import

Decrease in spending will reduce money spent on consumption which will result in fall in aggregate demand in economy which result in backward shift of IS curve to IS1 which will reduce rate of interest from "i" to "i1" and level of real GDP from "Y" to "Y1": Thus, this statement is false.

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