Macroeconomics For Dummies®, uk edition Published by: John Wiley & Sons, Ltd

Short run

In the short run, increased consumer confidence raises the demand for consumption (C). Along with investment (I), government expenditure (G) and net exports (NX), C is a component of AD (= C + I + G + NX), so this raises aggregate demand in an economy. Now, at any given price level, more goods and services are demanded. We represent this in Figure 9-2 by a shift in the AD curve from AD₁ to AD₂.

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Figure 9-2: Effects of increased consumer confidence in the short run.

As we discuss in Chapter 8, in the short run prices are sticky, which causes the economy to move along the short-run aggregate supply (SRAS) curve from point A to point B.

The increase in AD caused the price level and real GDP to increase, and because real GDP rose beyond the natural level of output , unemployment also fell below its natural rate. Thus increased consumer confidence appears to be a ‘good thing’ for the economy in the short run.


Long run

In the long run, prices become flexible and are able to adjust fully to the increase in AD, meaning that the increased consumer confidence has far less real impact on the economy. The quantity of available factors of production

doesn’t increase and no technological advance happens, so output must return to its natural level : as prices begin to increase, SRAS begins to shift up and to the left until finally output falls back to (see Figure 9-3).


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Figure 9-3: Effects of increased consumer confidence in the long run.

The increase in AD took the economy from point A to point B in the short run. Prices rose a little, but not much. In the long run, prices increase further, shifting SRAS up and to the left from SRAS₁ to SRAS₂. The economy moves along the AD₂ curve from point B to point C. Real GDP and unemployment are unchanged and only the price level has increased.