RedBantha
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Hi everyone, I'm struggling to understand a concept to do with fiscal and monetary policies. The question I have to answer is:

'What are fiscal and monetary policies? With help of AD and AS diagrams demonstrate and explain why fiscal and monetary policies may not be effective'

I know how to explain what fiscal and monetary policies are designed to do but I cannot explain why they would be ineffective with the use of graphs. Can anyone help? I've seen a few graphs in books and online but my understanding of economics is pretty minimal and I'm not sure if I'm looking at the right stuff to answer the question.

EDIT: This is an undergraduate question, not postgraduate, but it won't let me change the prefix.
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trocker
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Hi

I think you could show this quite simply. If you use expansionary fiscal expansionary, i.e. increasing govt expenditure and reducing taxation, this in turn will lead to a larger budget deficit. Some argue, especially monetarists that this will lead to crowding out, basically because of the increased govt expenditure, private sector will fall and higher govt borrowing will push up interest rates. AD could therefore fall to the left.

You could also look at the elasticity of the AS curve to upwards shifts in AD. The greater inelasticity of the AS curve the greater the rise in price level for a smaller rise in output. You could look at trade offs.
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RedBantha
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(Original post by trocker)
Hi

I think you could show this quite simply. If you use expansionary fiscal expansionary, i.e. increasing govt expenditure and reducing taxation, this in turn will lead to a larger budget deficit. Some argue, especially monetarists that this will lead to crowding out, basically because of the increased govt expenditure, private sector will fall and higher govt borrowing will push up interest rates. AD could therefore fall to the left.

You could also look at the elasticity of the AS curve to upwards shifts in AD. The greater inelasticity of the AS curve the greater the rise in price level for a smaller rise in output. You could look at trade offs.
Hi trocker,

Thanks for your reply. I do find macroeconomics difficult to understand but I think I follow what you are saying. If I were to talk about the crowding out effect as a reason for fiscal policy being ineffective, then using the graph below as an example, what you are saying is the demand could end up shifting to the left? So although D2 has moved to the right initially, it could swing back to the left?

Image

I am still not too sure how to illustrate ineffectiveness of monetary policies either. Thanks for your help so far
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