2.2.1 - Aggregate Demand (AD) Flashcards
Define aggregate demand
Total amount of goods and services demanded in the economy at a given time and price leve
Define aggregate supply
Total planned output of goods and services in an economy at a given time + price level
What is aggregate demand comprised of
combined spending of households on consumer goods and firms on investment goods, together with government expenditure.
Also exports (spending by rest of the world on domestically produced goods) BUT imports must be deducted
How can aggregate demand be summarised in an equation
AD = Consumption + Investment + government spending + (exports - imports)
AD = C + I + G + X - M
What does an AD curve show
The total amount of goods and services demanded in an economy at any given overall level of prices
Price level would be CPI for Uk economy
Why does the aggregate demand curve slope downwards
The lower the price level, the more output is demanded - lower prices mean consumers can buy more goods/services with their money
Why would a rise in price level cause a fall in output
1) Domestic competition will be reduced - things become more $ = people can purchase fewer goods and services
2) Demand for xports reduced - domestically produced goods become less competitive
3) Demand for imports would increase - if prices haven’t risen abroad, imports are cheaper in comparison
Describe the distinction between a movement along, and a shift
of, the AD curve
- Movements ALONG the AD curve are caused solely by PRICE CHANGES
- Shifts of the AD curve are caused by the determinants of the AD curve
determinants: consumption, investment, government spending, net exports
What does a shift to the right in the AD curve show
Aggregate demand increases: for any price level, a larger amount of real GDP is demanded
(either consumption, investment, government spending, net exports have RISEN)
What does a shift to the left in the AD curve show
Aggregate demand decreases: for any price level, a smaller amount of real GDP is demanded
(either consumption, investment, government spending, net exports have FALLEN)
State reasons for the downward sloping AD curve
1) wealth effect
2) International trade effect
3) interest rate effecta
Explain the interest rate effect and its impact on movement along the AD curve
Increase in price level
increase in demand for money
increase in interest rates
increase in cost of borrowing
decrease in consumer purchases financed by borrowing/decrease in investment by firms financed by borrowing
SO FALL IN QUANTITY OF OUTPUT DEMANDED
UPWARD movement along AD curve
vice versa
Explain the international trade effect and its impact on movement along the AD curve
domestic price level rises whilst foreign PL doesn’t
Exports are more $ for foreign buyers so they demand less quantity of it
Imports from other countries become cheaper for domestic buyers, so imports rise
Rising PL = fall in exports, rise in imports so net exports fall
FALLING NET EXPORTS = FALL IN QUANTITY OF OUTPUT DEMANDED AKA UPWARD movement along AD curve
vice versa
Explain the wealth effect and its impact on movement along the AD curve
Rising PL = real value of wealth falls
people feel worse off so cut back on spending on goods/services
So rising PL = less output demanded = UPWARD movement along AD curve
vice versa
