The Aggregate Supply and Demand Model

A decrease in government spending, or a leftward shift in the aggregate demand curve, will initially reduce total spending by the amount of the decrease. Because all spending becomes someone else's income, income will decrease. With less income, people will decrease consumption spending. Thus, the initial reduction in government spending will have a multiplied effect on total spending. Since spending is now less than output, inventories in investment will increase and businesses will have fewer incentives to produce. Aggregate quantity supplied will be greater than aggregate quantity demanded, and output and prices will fall as business try to sell of their excess inventories.…