Stock Market Boom
The question
Assume the economy of Fenwick is initially in long-run equilibrium. A prolonged stock market boom substantially increases the wealth of Fenwick's households. Show the short-run effect on Fenwick's economy, assuming all else is held constant. Show the effect on the AD-AS Model graph.
Drag a curve, or use the arrow buttons. Want the free-play version with every control? Open this graph in the sandbox.
Stock Market Boom: the worked answer
On the AD-AS Model graph, AD shifts right.
Why AD shifts right
Rising stock prices increase household wealth, and wealthier households increase consumption spending at every price level. Consumption is a component of aggregate demand, so aggregate demand shifts to the right. Firms' production costs and the economy's productive capacity are unchanged, so neither aggregate supply curve shifts.
What happens to the equilibrium
The equilibrium price level rises and real GDP increases above full-employment output, creating an inflationary gap.
The mistake students make on this one
A common error is shifting an aggregate supply curve right because rising share prices sound like firms are thriving. A share price is neither a cost of production nor a resource the economy owns, so it touches neither SRAS nor LRAS; the channel is household wealth raising consumption.
On exam day
Wealth is a determinant of consumption, so trace it to C, shift AD, and then label the horizontal distance from the new equilibrium out to LRAS as the inflationary gap.
How this is graded
The checker reads every curve's position before and after your answer. You are marked correct only when AD shifts right and every other curve on the AD-AS Model graph stays where it started — the same standard an AP reader applies to a drawn graph: the right shift, and nothing extra. There is no AI involved; the rubric is the geometry.
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