2.2 Flashcards
What is aggregated demand
The total level of spending in the economy at any given price
What are the components of aggregated demand and what is the value of each of them
AD= C+i+G+(X-M)
Consumption- consumer spending- 60%
Investments- spending by businesses on capital goods- 20%
Government spending- public, merit goods etc- 20%
Net exports-exports - imports-5%
What does the AD curve represent
the relationship between price level and real GDP.
Why is the AD curve downward sloping and why does a rise in price cause a fall In real gdp
Income effect- As a rise in prices is not matched straight away by a rise in income, people have lower real incomes so can afford to buy less, leading to a contraction demand.
Substitution effect- If prices in the UK rise, less foreigners will want to buy British exports and more UK residents will want to buy imported foreign goods because they are cheaper. The rise in imports and fall of exports will decrease net exports so AD will contract.
Real balance effect - A rise in prices will mean that the amount people have saved up will no longer be worth as much and so will offer less security. As a result, they will want to save more and so reduce their spending, causing a contraction in AD.
Interest rate effect- Rising prices mean firms have to pay their workers more and so there is higher demand for money. If supply stays the same, then the ‘price of money’ i.e. interest rates will rise because of this higher demand. Higher interest rates mean that more people will save and less will borrow.
What is disposable income and how is it affected
the money consumers have left to spend, after taxes have been taken away and any state benefits have been added. This means that disposable income is affected by government taxation as well as wages.
What is the marginal propensity to consume and formula
how much an increase in income affects consumption,
Change in consumption divided by change in income
Why does it mean if MPC is positive but less than one
an increase in income increases spending but spending doesn’t increase by as much as income.
What is the average propensity to consume and formula
average amount spent on consumption out of total income.
Total consumption divided by total income
What is marginal and average propensity to save
MPS-How much of an increase of income is saved
APS-average amount saved out of income
Influences on consumer spending
Income
Confidence
Wealth
Interest
Tastes
What is investment
Addition of capital stock to the economy,
What is the difference between gross and net investment
Gross investment is the amount of investment carried out and ignores the level of depreciation,
net investment is gross investment minus the value of depreciation.
Machinery loses value as it is used up (depreciates)
Influences on investment
Rate of economic growth
Business expectations and confidence
Interest rates
Government regulation
Credit access
Technological development
Costs
Retained profit
Demand for exports
Influences on government expenditure
Trade cycle - In a recession, the government may increase spending in order to increase demand to reduce unemployment.
Government spending also automatically rises during a recession as they have to spend more on unemployment benefits. During booms, the government may decrease spending to decrease demand and reduce inflation.
Fiscal policy- Fiscal policy is the decisions about government spending and taxes and it will depend on the priorities of the government.
Age distribution- older people may require social care, young require education
Influences on net trade balance
Real income: When real income in the UK is high, there tends to be increased imports as people demand more goods and services and the UK is unable to meet their needs.
Exchange rates: A strong pound (when the pound is worth a lot in comparison to other countries) makes imports cheap and exports dear because it costs foreigners more to buy pounds with their local currency. As a result, imports will increase and exports will decrease so net trade will decrease.
State of world economy: If the UK’s main export country is doing well, then UK exports are likely to rise and so net trade is likely to rise. The effect of the state of the world economy is dependent on which countries are doing well and the trade relationship the UK has with them
Degree of protectionism: Protectionism is an attempt to prevent domestic
producers suffering from competition abroad. Tariffs, quotas and technical barriers are introduced which makes it harder for producers from abroad to sell their goods in the UK.
Non-price factors: Two non-price factors which affect net trade are quality and design and marketing. If UK goods are of a higher quality and design, exports will be high as foreign demand for UK goods will increase and imports will decrease as people will buy the British goods instead of foreign goods.
Prices
