Question

Explain how an increase in government expenditure can affect the goods market and money market by taking the link between the two markets into account.

Answer 1

An increase in government spending affect the goods market by increasing the aggregate demand and sggregate supply remains the same. Increasing in government expenditure means Consumers are spending more which lead to increase in demand of goods and services. In this case, firms will get to see inventory of goods are falling due to increase in demand and supply remaining constant, which lead to increase in price of goods. Workers will also demand for a higher wage to keep their real wage constant. When government increase spending or increase in public expenditure , increases investment and increases GDP. There is higher prices of goods and a higher interest rates as government is borrowing more to fund the expenditure. If government spends more money, aggregate expenditure and GDP is increased. Investment or savings curve will shift due to increase in GDP and increased savings.