Question

1. What effects would each of the following have on aggregate demand or aggregate supply (other things held constant)? Explain them to score high marks. a. The Canadian dollar loses its value and gets weaker by 3% against the US dollar. Ans: b. A $2 increase in the excise tax (production) on a pack of cigarettes. Ans: c. A reduction in interest rates at each price level. Ans: I d. COVID-19 reduces the demand for oil and thus oil prices fall sharply in the international market. Ans: e. The US economy, the largest trading partner of Canada, goes into recession due to COVID -19. Ans:

Answer 1

1.a. As the Canadian dollar becomes weaker relative to US dollar, exports in Canada becomes cheaper wheras, imports becomes costlier. As a result, net exports increases and thereby, aggregate demand rises in the Canadian economy (aggregate supply remains unchanged). This will help in stimulating the economy as real GDP will rise.

b. With increase in excise tax on a packet of cigarettes, aggregate supply will fall and shift to its left. This is because aggregate supply reduces with increase in input prices. As a result, real GDP falls.

c. A reduction in interest rate at each price level, increases investment spending (inverse relation between interest rate and investment). As a result, aggregate rises and shifts to the right. This will cause real GDP to rise.

d. With fall in demand and price of oil, aggregate supply must decrease and shift to its left. This is because the producers are incurring losses at lower prices and thus, will reduce their production. As a result, real GDP will fall.

e. As US economy goes into recession, net exports in Canada falls (as exports to US falls with recession in US). Thereby, aggregate demand and real GDP both decreases in Canada.