2.2.1-5 Aggregate demand - net trade Flashcards
what is aggregate demand?
the total level of planned real expenditure on the goods and services produced within a country
whats the formula for aggregate demand?
AD = C + I + G + (X-M)
(consumption is biggest component, 63% of UK economy)
what are the labels for an aggregate demand curve?
x-axis = real GDP
y-axis = general price level
whats general price level?
the average of the current prices across the entire economy
whats real GDP?
the value for the economic output adjusted for price changes
why does the AD curve slope downwards?
- real income effect, as price levels fall the real value of income rises and consumer can buy more
- balance on trade effects fall in relative price of one country could make foreign goods more expensive causing a rise in exports and fall in imports
- interest rate effect,if price inflation is low there will be a reduction in interest rates, less incentive to save
what are movements on the AD curve caused by?
changes in price levels
what are shifts on the AD curve caused by?
non-price factors
what is consumption?
spending on consumer goods and services (main sources are wages, savings, pensions and benefits)
- consumption is the biggest component of the UK aggregate economy
whats marginal propensity to consume?
the change in spending following a change in income (proportion of additional income that is spent)
what factors affect consumer spending?
- real disposable income
- employment and job security (rising confidence = spend more )
- household wealth (value of assets incl house prices)
- expectations and sentiment
- interest rates (create incentive to save)
why’s consumer confidence important?
encourages spending instead of saving
what are household savings and ratio?
people choosing to postpone consumption and it estimates the amount of money households have available to save measured as a % of their total disposable income
whats the importance of savings?
- business survival (can cushion during recession)
- funding investments
- buffer of financial resources for consumers
whats are investments?
the purchase of goods not used today but used in the future to create wealth
what are gross investments?
total investments on new capital inputs
what are net investments?
gross investments adjusted for depreciation of capital
what factors affect private sector investment?
- actual and expected demand
- cost of capital i.e. rate of interest on loan
- avaliability of borrowing
- business taxes
- the pace of change of technology in a give industry
- govt. intervering
what does Keynes means when saying animal spirits?
a notion referring to a mix of confidence, trust,mood and expectations (fluctuates quickly as thinking does)
what are the advantages of investment?
- injection into the circular flow of income
- new capital can aid productivity
- creates extra demand in investment goods
- strong multiplier effect on GDP level
- support countries competitiveness and therefore improves trade
budget deficit?
govt. spending exceeds tax revenue earned
budget surplus?
govt. spending less than tax revenue earned
why when GDP rises does the govt. automatically receive more tax without rising taxation?
because of income, corporation tax and VAT so as people have more taxable money which they then also spend
whats govt. spending?
spending by the public sector on goods and services such as education, health care and defence
- key component of aggregate demand, has economic impact regionally and can help achieve greater equity in society
whats capital spending?
expenditure that results in the acquisition or construction of a fixed asset (land, building, vehicle, equipment) or enhancement of an existing fixed asset
what is net trade?
the difference in value between a country’s exports of goods and services and its imports
what are the factors with trade that affect aggregate demand?
- if domestic incomes high the demand for imports is likely to rise
- relative prices of exports in world markets
- the exchange rate of exports in world markets, a stronger currency makes exports more expensive and imports cheaper
- non-price demand factors eg design and imports cheaper
- strength in AD in key export markets (state of world economy)
- the level of protectionism eg use of tariffs and quotas
how does net trade affect AD?
- a trade surplus means that the value of exports is greater than the value of imports - so AD will increase
- a trade deficit means that the value of imports is greater than the value of exports - so AD will fall
whats the accelerator effect?
when investment levels are related to change of GDP,an increase in economic growth = corresponding larger level of investment due to more confidence and spending so firms invest
but investment is vary variable and change change quickly
what are the main influences on government expenditure?
- trade cycle, when GDP is rising the govt will receives more tax so can spend more
- fiscal policy
whats the fiscal policy?
- government spending
- taxation
- borrowing
➡️ to affect the level and growth of aggregate demand, output and jobs
whats current spending?
Involves recurring spending on providing public services
whats capital spending?
Projects to provide new public infrastructure
whats transfer spending?
redistribution of money to those in need eg benefits
whats the significance of government spending?
- a key component of aggregate demand
- has a regional economic impact
- important in providing public and merit goods
- can help achieve greater equity in society
what are the main factors that affect net trade?
- real income
- exchange rates
- state of world economy
- degree of protectionism
- non-price factors
what is the paradox of thrift?
higher savings and reduced investment both reduce demand and income, it makes sense for indivduals to save if they are uncertain but this casues buisnesses to need less workers ➡️what appears to be rational could be argued as irratioaal
how does investment cause short run economic growth?
- increased investment will lead to an increase in AD which will lead to short run/real economic growth
how does investment cause long run economic growth?
the purchase of capital will lead to an increase in a country’s productive potential, shown by a shift in the PPF curve and the long run aggregate supply curve
