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Impact of Consumer Confidence on Interest Rates and Expansionary Policy

Added on -2019-09-20

The fall in consumer confidence can have a negative impact on the economy even if interest rates are reduced. Expansionary monetary-fiscal policy can help the economy recover from this situation. Learn more about the impact of consumer confidence on interest rates and how expansionary policy can help the economy recover.
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The fall in consumer confidence is not going to have positive impact even if the interest rates are reduced. If the government reduces the interest rate to increase the availability of money and boost the economic activity, the consumers will save the money due to the poor consumer confidence (Ludvigson, 2004). Moreover, the reduction in the consumption expenditures can be observed. There are various researchers who have identified that the consumer confidence is the important variable that impacts the consumer spending. The ISLM curve below shows that if the consumer confidence is low about the economy, then theIS curve shifts to the left without bringing any change to the LM curve. Therefore, if the consumer confidence is low then the reduction in the income level can also be expected. The increment in the real rate of interest can be observed. Moreover, due to the low confidence, consumers will not prefer to invest in the economy as they think that it might impact their profitability or the return on the investments. The interestrate change efforts from the government is not even going to solve the situation as instead of interest rate improvements to increase the investment, the economy needs confidence. There has been instance where the people have even spent in higher interest rate economy due to thehigh level of confidence. Therefore, there is limited relationship between the interest rate and the investment in the economy where the confidence of the people is low. Now if the real exchange rate is considered in the decreased consumer confidence, then it can be stated that the low confidence will have negative effect on real exchange rate. Moreover, the increase in the exports is likely to increase (lemmon and Portniaguina, 2006). The consideration of expansionary monetary-fiscal policy is likely to help the economy recover from this situation. The recession refers to the decline in the trade and industrial
activities and the expansionary policy of boosting the economy can be considered as the righttool. The graph given below shows the economy in the healthy condition. The graph represents an economy the functioning appropriately. In it, the every year, the total supply and demand shift to the right and the equilibrium can be seen shifting from E0 to E1 to E2. And the inflation can be stated as rising with limited price level.However, the situation stated above is an ideal condition and the demand and supply rarely stays in tandem like always. As assumed, if the interest rate is low, and the economy is in recession then it can be inferred from here that the households are hesitant in consuming and are not confident of the market. There can be other possible cases also such as the reduction in the demand from the external marker or the reduction in the investments from the firms operating within the economy due to the lack of confidence in the economy or for other reasons.In these situations, the central bank can implement expansionary monetary policy (Bordo andLandoon-Lane, 2013). This expansionary monetary policy comes with various measures suchas increasing the supply of money, improving the loan quality, reducing the interest rate (which is already low), and shifting the demand curve to the right. Expansionary fiscal policyhelps increase the demand. This is done by either increasing the expenditure of the government or by reducing the taxes levied on various elements. There are three ways that can be adopted to do this. Firstly, the taxes can be reduced to ensure that the consumers have more disposable income. The excess disposable income is most likely to return into the market in the form of investments. Secondly, the government can also reduce taxes levied on

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