2.2 Aggregate Demand

Question 1

What is aggregate demand

Answer 1

Aggregate demand (AD) is the ​total level of spending ​in the economy at any given price

Question 2

What is the formula for calculating aggregate demand

Answer 2

Aggregate demand = Consumption + Investment + government spending + (exports - imports)

Question 3

What is consumption

Answer 3

Consumption ​is consumer spending on goods and services

Question 4

What is investment

Answer 4

Investment is spending by businesses on capital goods, such as new equipment and buildings as well as working capital

Question 5

What is government spending

Answer 5

Government spending is spending by the government on providing goods and services, generally public and merit goods.

Question 6

What is net exports

Answer 6

Net exports is exports minus imports

Question 7

What does the AD curve show

Answer 7

it shows the ​relationship between price level and real GDP. the AD curve is ​downward sloping as a rise in prices causes a fall in real GDP and there are four key reasons for this:

Question 8

What are the four reasons for the inverse relationship between real GDP and price level in the aggregate demand curve

Answer 8

Income effect
Substitution effect
Real balance effect
Interest rate effect

Question 9

What is the effect of income on the AD curve

Answer 9

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.

Question 10

What is the effect of substitution on AD

Answer 10

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.

Question 11

What is the effect of the real balance on AD

Answer 11

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.

Question 12

What will a be result of a change in interest rates on AD

Answer 12

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 and will also mean that businesses invest less, so AD will contract.

Question 13

What is disposable income

Answer 13

the ​money consumers have left to spend​, after taxes have been taken away and any state benefits have been added

Question 14

What is the marginal propensity to consume

Answer 14

how much an increase in income affects consumption

Question 15

What is the average propensity to consume

Answer 15

the average amount spent on consumption out of total income.

Question 16

What is the calculation for MPC

Answer 16

Change in consumption/ change in income

Question 17

What is the calculation for APC

Answer 17

Total consumption/ total income

Question 18

What is the relationship between saving and consumption

Answer 18

The more money that is saved the less consumption occurs. The same factors effect both but in opposite ways

Question 19

What is the marginal propensity to save

Answer 19

how much of an increase in income is saved

Question 20

What is the average propensity to save

Answer 20

the average amount saved out of income.

Question 21

What is the calculation for MPS

Answer 21

Change in savings/ change in income

Question 22

What is the calculation for APS

Answer 22

Total saving/ total income

Question 23

What are 5 factors which effect consumer spending

Answer 23

• interest rates
• consumer confidence
• wealth effects
• distribution of income
• tastes and attitudes

Question 24

What are some influences on investment

Answer 24

Rate of econmics growth
Demand for exports
Interest rates
Influence of the government and regulations
Technological change
Costs
Access to credit
Retained profit

Question 25

What is are some influences on government expenditure

Answer 25

• the trade cycle
• fiscal policy
• age distribution of the population

Question 26

What is the influence of the trade cycle on government expenditure

Answer 26

Decisions on expenditure may be made in order to mange the trade cycle. In recession spending may increase and during booms it may decrease to keep the trade cycle an AD steady

Question 27

What is the effect of fiscal policy on government expenditure

Answer 27

This is policy which provides the budget for which money can be spent and has huge impact on expenditure

Question 28

What is the effect of age distribution of the population of government expenditure

Answer 28

Ageing population means increased spending on pensions. Young population means increase in education. The more dependents young and old determines much government spending

Question 29

What are influences on net trade balance

Answer 29

• real income ( higher demand for goods leads to imports )
• exchange rates (strong vs weak currency)
• state of world economy ( countries UK exports to success)
• non price factors ( marketing and quality)
• goods prices (

Question 30

What is net trade

Answer 30

The total exports minus the total imports

Question 31

Draw a agitate demand diagram

Answer 31

Check psy math tut

Question 32

What causes movements and shifts in the aggregate demand curve

Answer 32

A movement along the AD curve is caused by a change in prices​, caused by inflation or deflation. A shift of the AD curve is caused by a change in any other variable​.

Question 33

How can interest rates have an effect on consumer spending

Answer 33

Most major expenditures are bought on credit so therefore the interest rate will affect the cost of the good for consumers. If interest rates are high, the price of the good will effectively be higher since more interest needs to be paid back and this will lead to a reduction in consumption. High interest rates also increase mortgage repayments so reduce consumption.

Question 34

How does consumer confidence have an effect on consumer spending

Answer 34

One major factor that affects people’s spending is what they think will happen in the future. If people are confident about the future and expect pay rises, then they will continue or increase their spending. If they expect high levels of inflation in the future, they will buy now as it will be at a cheaper price, so consumption will increase

Question 35

How can wealth effects cause a change in consumer spending

Answer 35

Greater wealth will improve a consumer’s confidence and thus lead to greater spending.

Question 36

How can the distribution of income have an effect on consumption

Answer 36

Those on high incomes tend to save a higher percentage of their income than those on low incomes and so a change in the distribution of money in the economy will affect the level of consumption. If money is moved from the rich to the poor, consumption is likely to increase as the poor have a higher MPC.

Question 37

What is investment

Answer 37

the ​addition of capital stock to the economy i.e. machines and factories used to produce other goods and services. It is only seen as investment if real products are created so buying a share in a company would be saving but buying new machinery is investment.

Question 38

What is gross investment

Answer 38

the amount of investment carried out and ignores the level of depreciation, Machinery depreciates (loses its value) over time as it wears out or gets used up

Question 39

What is net investment

Answer 39

gross investment minus the value of depreciation, Machinery depreciates (loses its value) over time as it wears out or gets used up

Question 40

What is the effect of rates of economic growth on investment

Answer 40

a growing economy, there will be higher levels of investment as businesses would be more confident about their investments and the higher demand would lead to a higher return rate on the investment.

Question 41

What is the effect of demand for exports on investment

Answer 41

If the world economy is booming, demand for exports is likely to increase and therefore exporting firms’ investment is likely to increase to cope with this extra demand.

Question 42

What is the effect of interest rates on investment

Answer 42

• Most investment is done through borrowing. High interest rates mean that borrowing is more expensive, so a business needs to be more confident of good profits in order to cover the extra costs of borrowing

Question 43

What is the effect of the governments influence and regulations on investment

Answer 43

Governments can encourage investment by their own policy decisions. For example, they could offer tax breaks or grants to businesses to try and encourage them to invest.

Question 44

What is the effect of access to credit on investment

Answer 44

Investment will be lower when an investment has a high risk attached to it, as it means there will be less access to credit and interest rates will be higher. In recessions, it is usually more difficult to access credit as risks are higher and banks become more risk aware, fearing firms will not be able to pay the money back.

Question 45

What is the effect of retain profit on investment

Answer 45

Retained profits are the profits kept by a firm and not shared with shareholders or used to pay taxes. Many firms are also unwilling to borrow money for investment in case the investment fails to make a profit and they are unable to pay it back. Therefore, if firms are making higher retained profits, investment is likely to increase as they have money available to invest.

Question 46

What is the effect of technological change on investment

Answer 46

Improvements in technology will improve or speed up production which will increase the level of profitability, meaning the investment has a better prospect of success. Change also means businesses need to invest to keep up with the best technology.

Question 47

What is the effects of costs on investment

Answer 47

A rise in the cost of any capital project increases the level of risk that you are taking and therefore leads to lower levels of investment.

Question 48

What is the effect of real income on net trade balance

Answer 48

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. This will mean that net trade decreases. However, if an increase in real income is due to export-led growth then net trade will increase

Question 49

What are the effects of exchange rates on net trade balance

Answer 49

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.

Question 50

What is the effect of the state of the world economy on net trade balance

Answer 50

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.

Question 51

What is the effect of non price factors on the net trade balance

Answer 51

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.

Question 52

What is the effect of prices of goods on net trade balance

Answer 52

​High prices of UK goods will mean that the goods are less competitive compared to international goods since people make decisions partly based on price.