Page 705 - The Principle of Economics

CHAPTER 31 AGGREGATE DEMAND AND AGGREGATE SUPPLY 725
IN THE NEWS
How Consumers Shift Aggregate Demand
AS WE HAVE SEEN, WHEN PEOPLE CHANGE their perceptions and spending, they shift the aggregate-demand curve and cause short-run fluctuations in the economy. According to the following article, such a shift occurred in 1996, just as the presidential campaign of that year was getting under way.
Consumers Get the Credit for Expanding Economy
BY RICHARD W. STEVENSON WASHINGTON—President Clinton claims the credit for himself, and analysts cite an array of other possible factors, but the most important source of the econ- omy’s remarkable resilience and vibrancy this year appears to be the consumer.
For most of this year, Americans have spent prodigiously on homes, cars, refrigerators, and dinners out, carrying forward an aging economic expansion that as recently as January seemed in danger of expiring. In the process, they have largely ignored warning signs that they are becoming overextended.
The consumer spending spree was a major force in the surprisingly robust economic data released Friday, econo- mists said. The Labor Department es- timated that the economy created 239,000 jobs in June, far more than expected, making that month the fifth consecutive one with strong employ- ment gains. The unemployment rate now stands at 5.3 percent, the lowest in six years, and economic growth is so rapid that it has revived fears of inflation.
Among the industries showing the biggest gains was retailing, which added 75,000 jobs in June, nearly half of them in what the government classifies as eat- ing and drinking places. Job growth was also strong at car dealers, gas stations, hotels, and stores selling building materi- als, garden supplies, and home furnish- ings. Employment in construction was up by 23,000, reflecting in part the contin- ued upward strength of home building.
Just how long consumers can carry on with their free-spending ways, how- ever, remains an open question and one that is critical to policymakers at the Fed- eral Reserve as they decide whether to raise interest rates to keep the economy from accelerating enough to generate in- creased inflation.
Some economists believe that con- sumers have amassed so much debt that they will be forced to rein in their spending for the rest of the year, result- ing in a slackening of economic growth. Credit card delinquencies in the first quarter were at their highest level since 1981, and personal bankruptcies were
CONSUMERS: AGGREGATE-DEMAND SHIFTERS
up 15 percent from the first three months of 1995. . . .
Most economists also agree that the surge in spending this year has been driven in large part by temporary fac- tors—including low interest rates, higher- than-expected tax refunds, and rebates from automakers—that have been re- versed or phased out. . . .
One wild card in assessing the course of consumer spending is the stock market, which has been making relatively affluent consumers feel flush with its continued boom. Economists have grappled for years with the ques- tion of the extent to which paper gains on stock market investments lead con- sumers to spend more, and they still do not agree on an answer. But they said it was relatively clear that the bull market of recent years—and the fact that more and more Americans invest in the market through retirement plans and mutual funds—has provided some impetus to consumers to spend more.
SOURCE: The New York Times, July 8, 1996, p. D3.
THE EFFECTS OF A SHIFT IN AGGREGATE SUPPLY
Imagine once again an economy in its long-run equilibrium. Now suppose that suddenly some firms experience an increase in their costs of production. For ex- ample, bad weather in farm states might destroy some crops, driving up the cost