2.2 - Aggregate Demand Flashcards
What is Aggregate Demand?
Aggregate Demand is the total level of spending
What components is Aggregate Demand made up of?
AD = C+I+G+(X-M)
C = Consumption
I = Investment
G = Government Spending
(X-M) = Net Exports
What is Consumption?
Consumption is consumer spending on goods and services.
What is Investment?
Investment is spending on capital goods, such as new equipment and buildings as well as working capital.
What is Government Spending?
Government spending is the spending by the government on providing goods and services, generally public and merit goods, both on wages and salaries of public sector workers and on investment goods such as new roads and schools. Transfer payments such as jobseekers’ allowance and pensions aren’t included in the figure.
What are Net Exports?
Net Exports is exports minus imports. When imports are higher than exports, this figure is a negative as more money is leaving the UK than coming in.
What is the AD curve?
The AD curve is the same as the demand curve for an individual market, but shows the relationship between price level and real GDP. It is downward sloping as a rise in price causes a fall in real GDP.
What is the effect of income on the AD curve?
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 in demand.
What is the effect of substitutes on the AD curve?
If prices in the UK rise, less oversea consumers 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.
What is the effect of the real balance on the AD curve?
A rise in price will mean that the amount people have saved up will no longer be worth as much and so will offer less security. So, they will want to save more and so reduce their spending, causing a contraction in AD.
What is the effect of interest rates on the AD curve?
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’ (interest rates) will rise because of higher demand. Higher interest rates mean that more people will save and less will borrow and also businesses will invest less, so AD will contract.
