Pigou's Wealth Effect Suggests That When the Price Level Falls

question 43

Essay

Pigou's wealth effect suggests that when the price level falls, consumers feel wealthier and so increase their spending.Another implication of falling prices, however, is that the real value of dollar-denominated debts will increase.For example, if you owe $100, the real value of your debt goes up, and you are worse off.If someone owes you $100, then falling prices make you better off.Now suppose that on average those who borrow money tend to spend a larger fraction of their income than do those who lend money.Will spending rise or fall as a result of a fall in the price level?

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Definitions:

Polyandrous

A mating system where a female has multiple male partners.

Females

The sex of an organism, or part of a population, which produces non-mobile ova (egg cells) and can typically bear offspring.

Living in Groups

The behavior of organisms that involves residing and acting together in organized groups or communities for mutual benefit, such as increased protection and resource acquisition.