What happens to aggregate demand when the dollar depreciates? And what happens when households expect lower prices in the future?

Expert Answers

An illustration of the letter 'A' in a speech bubbles

The dollar depreciates in value when a dollar is worth less relative to another currency. A dollar appreciates in value when it increases in value relative to another currency. Currencies globally depreciate and appreciate relative to one another based on the economic conditions in the countries where the currencies are used and investor sentiment.

The dollar depreciating relative to another currency means that exports from the US to the country that uses the other currency will expand, and imports from that country to the US will contract. If you primarily use the other currency, goods priced in dollars have become cheaper, which leads to expanded exports from the US to the other country. If you primarily use dollars, goods priced in the other currency have become more expensive, which leads to reduced imports from the other country to the US. The dollar can appreciate versus some currencies while depreciating versus others, which means that this type of analysis can be very detailed to determine the total change in aggregate demand.

If human economic behavior is rational, households that expect lower prices in the future will tend to spend less and save more. Then when prices are reduced, the households will spend more, as their money will go further. The reality is much more complicated than this simple view, because human economic behavior can often be emotional even on the aggregate. For example, buying a car every year even though the car will drop significantly in value is not rational, but many people do it anyway. However, in general, a drop in prices will lead to more consumer spending.

Approved by eNotes Editorial
An illustration of the letter 'A' in a speech bubbles

When the dollar depreciates against foreign currencies, exports should increase and imports should decrease. This is because US products get cheaper for foreigners, and their products get to be more expensive for the US.

In such a case, there gets to be increased demand for American products. That means that aggregate demand goes up.

If households expect lower prices (I assume for all goods and services) in the future, AD goes down because people will wait to buy until the prices actually do drop. In other words, if you think the car that you can buy for $25,000 is going to cost $20,000 in six months, you really ought to wait if you can.

See eNotes Ad-Free

Start your 48-hour free trial to get access to more than 30,000 additional guides and more than 350,000 Homework Help questions answered by our experts.

Get 48 Hours Free Access
Approved by eNotes Editorial