Question

Commentators on the US economy feel the US economy fell into a recession in 2001 and then proceeded into a slow-growth recovery due to a decline in investment.

Explain how a change in investment can have a big impact on GDP causing a nationwide slump. Recall that investment is ""small"" relative to the whole economy.

Illustrate your reasoning using our AD/AD model.

How did low interest rates combined with increased government spending on defense and homeland security alter the US economic outlook? Explain using our AD/AS model.

Answer 1

A change in investment can impact GDP and cause a nationwide slump. Low interest rates and increased government spending can alter the US economic outlook by influencing AD.

Step-by-step explanation:

A change in investment can have a big impact on GDP and can cause a nationwide slump. Investment is a component of aggregate demand (AD), and when investment decreases, it leads to a decrease in AD, which in turn leads to a decrease in GDP. To illustrate this, we can use the AD/AS model. When investment decreases, the AD curve shifts to the left, causing a decrease in both real GDP and price level.

Low interest rates combined with increased government spending on defense and homeland security can alter the US economic outlook by shifting the AD curve to the right in the AD/AS model. Low interest rates encourage borrowing and investment, which increases AD. Increased government spending also leads to an increase in AD. As a result, the economy experiences an increase in real GDP and a higher price level.