Suppose it is mid-2007 and the stock market has been growing rapidly for the past five years. Some economists argue that the stock market has become "overvalued" and thus a "crash" is imminent.

a. How does a rising stock market affect aggregate demand? Show this in an AD/AS diagram.

b. For a central bank that is trying to keep real GDP close to potential, explain what challenges are posed by a rapidly rising stock market.

c. Suppose the stock market "crashes," falling suddenly by approximately 35 percent as it did in the fall of 2008. How does this affect aggregate demand? Show this in an AD/AS diagram.