Consumer confidence

VI. Here we consider the paradox of saving one last time in the context of the AS-AD model.
Suppose the economy begins with output equal to its natural level. Then there is a decrease in
consumer confidence, as households attempt to increase their saving, for a given level of
disposable income.

a. In AS-AD and IS-LM diagrams, show the effects of the decline in consumer confidence
in the short run and the medium run. Explain why curves shift in your diagrams.
b. What happens to output, the interest rate, and the price level in the short run? What
happens to consumption, investment, and private saving in the short run? Is it possible
that the decline in consumer confidence will actually lead to a fall in private saving in the
short run?
c. Repeat part (b) for the medium run. Is there any paradox of saving in the medium run?