The Influence of Aggregate Demand Elasticity on the Federal Budget Deficit

This paper examines the implications of aggregate demand elasticity for the Federal budget deficit when macroeconomic shocks occur. We obtain two results from the graphical analysis. First, and for an adverse change to short-run aggregate supply, the decrease in real gross domestic product and the resulting increase in the budget deficit is larger the more elastic is aggregate demand with respect to the general price level. Second, and when a negative shock to aggregate demand occurs, the decrease in real gross domestic product and the consequent increase in the budget deficit is larger the smaller is the price level elasticity of aggregate demand