Which of the following is a reason why increases in the price level result in a decline in aggregate expenditure?
A)Price level increases raise real wealth, which causes consumption spending and aggregate expenditure to decline.
B)Price level increases cause firms and consumers to hold more money, which raises the interest rate. Higher interest rates lower consumption and planned investment expenditures, which lowers aggregate expenditure.
C)Price level increases in Canada relative to other countries raise net exports, which lowers aggregate expenditure.
D)As the price level rises, government spending falls, which lowers aggregate expenditure.
E)As the price level rises, real interest rates fall making consumers feel less wealthy.

Question

Quizplus · Accepted Answer

When price levels increase, it causes an increase in the demand for money, as people will hold more money to pay for the increased prices. This creates upward pressure on interest rates because the supply of money remains the same. Higher interest rates lead to a reduction in consumption and investment expenditures, which lowers aggregate expenditure. Thus, option B is the correct answer. Options A, C, D, and E do not provide a valid explanation for why increases in the price level lead to a decline in aggregate expenditure.

Which of the Following Is a Reason Why Increases in the Price