Hi, I'm struggling with this economics multiple choice graph question. The answer is A but I don't understand how an increase in government spending on infrastructure would cause a shift in aggerate demand. Wouldn't it rather be a decrease in budget deficit????
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This is tricky. Be careful with the wording. Think of it like this. Decreasing the quota is shrinking the number of exports we are allowed to export to other nations, hence, export revenue will inevitably decline (since export volumes decrease, so will revenue). this is aided by weaker competitiveness as this quota increases the price of exports. So that means export revenue WILL suffer. Now for employment, it's simply in the short run less revenue --> less derived demand --> fewer employment opportunities --> domestic employment decrease.
A decrease in budget deficit means the size of the deficit is getting smaller, meaning less spending. So, in fact, more infrastructure investment will result in more spending, hence deficit increasing. As to why it's A, well B is incorrect (as aforementioned), C is incorrect because contractionary MP decreases AD, and D is incorrect because more tax is more leakage --> decrease AD + economic activity. So that means A is correct, because infrastructure --> jobs/private investment --> income --> consumption --> AD. Also infrastructure is a form of government expenditure, G, meaning increased AD (AD = C+I+G+X-M)
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