2.2 Aggregate Demand Flashcards
What is Aggregate Demand (AD)?
The total level of spending in the economy at any given price
AD is composed of consumption, investment, government spending, and net exports.
What is the formula for Aggregate Demand?
AD = C + I + G + (X - M)
C = consumption, I = investment, G = government spending, X = exports, M = imports.
What percentage of Aggregate Demand does consumption represent?
About 60%
Consumption is the largest component of AD.
What is investment in the context of Aggregate Demand?
Spending by businesses on capital goods, such as new equipment and buildings
Investment makes up about 15-20% of AD.
What is government spending in relation to Aggregate Demand?
Spending by the government on providing goods and services, generally public and merit goods
Government spending typically accounts for around 18-20% of GDP.
What does net exports represent in Aggregate Demand?
Exports minus imports
The UK has a large trade deficit, making net exports the least significant part of AD at around 5%.
What does the AD curve represent?
The relationship between price level and real GDP
The AD curve is downward sloping.
What is the income effect in relation to the AD curve?
A rise in prices leads to lower real incomes, causing a contraction in demand.
What is the substitution effect?
If UK prices rise, foreign demand for British exports decreases, leading to a contraction in AD.
What is the real balance effect?
A rise in prices reduces the value of savings, leading to decreased spending and a contraction in AD.
What causes movements along the AD curve?
Changes in price levels, caused by inflation or deflation.
What distinguishes a shift in the AD curve from a movement along it?
A shift is caused by a change in any variable other than price.
What is disposable income?
The money consumers have left to spend after taxes and state benefits
It significantly influences consumption levels.
What is the marginal propensity to consume (MPC)?
The proportion of additional income that is spent on consumption.
What is the average propensity to consume (APC)?
The average amount spent on consumption out of total income.
What is the relationship between savings and consumption?
An increase in consumption decreases savings.
What are interest rates’ effects on consumer spending?
High interest rates increase the cost of credit and reduce consumption.
What influences consumer confidence?
Expectations about future economic conditions, inflation, and employment
High confidence generally leads to increased consumption.
What is the wealth effect?
Increased wealth leads to greater consumption levels.
What is gross investment?
The total amount of investment without accounting for depreciation.
What is net investment?
Gross investment minus the value of depreciation.
What factors influence business investment?
[”* Rate of economic growth”, “* Business expectations and confidence”, “* Demand for exports”, “* Interest rates”, “* Government regulations”, “* Access to credit”, “* Retained profit”, “* Technological change”, “* Costs”]
What role does government spending play in Aggregate Demand?
It significantly influences the level of AD through spending on public services.
What is fiscal policy?
Government policy regarding taxation and spending that can influence economic activity.
What is the main purpose of increasing government spending during a recession?
To increase demand and reduce unemployment
Government spending automatically rises during a recession due to increased unemployment benefits.
What is fiscal policy?
Decisions about government spending and taxes based on government priorities
Fiscal policy varies each year and is outlined in the government budget.
How does an ageing population affect government expenditure?
Increases spending on pensions and social care
A young population increases spending on education.
What is net trade?
Total exports minus total imports.
How does real income affect net trade?
High real income tends to increase imports, decreasing net trade
However, if the increase is due to export-led growth, net trade may increase.
What happens to net trade when the pound is strong?
Imports increase and exports decrease, leading to a decrease in net trade.
What is the effect of exchange rates on imports and exports?
A strong currency makes imports cheaper and exports more expensive
The elasticity of demand for imports and exports affects the overall value.
How does the state of the world economy influence net trade?
If the UK’s main export country is doing well, UK exports are likely to rise.
What is protectionism?
Attempts to prevent domestic producers from foreign competition
Involves tariffs, quotas, and technical barriers.
What are non-price factors that affect net trade?
Quality, design, and marketing of goods
Higher quality and better marketing increase exports and decrease imports.
How do high prices of UK goods impact net trade?
Decrease exports and increase imports, lowering net trade
Higher prices can result from higher inflation rates or lower productivity.
Fill in the blank: The level of government spending depends on what they lay out in their _______.
[fiscal policy]
True or False: An increase in real income always leads to an increase in net trade.
False
It depends on whether the increase is due to export-led growth.
