2.2.1 - characteristics of AD

Question 1

What is the equation for aggregate demand?

Answer 1

AD = C + I + G + (X-M)

Question 2

What is aggregate demand?

Answer 2

Total demand for goods and services in an economy, at each and every price level.

Question 3

What is consumption?

Answer 3

Spending on consumer goods and services over a period of time. Approx. 60% of GDP.

Question 4

What is investment?

Answer 4

The purchase of capital goods which are then used to create goods and services. Most important determinant of the rate of economic expansion.

Question 5

What is government spending?

Answer 5

Governments spend money to provide goods and services for their citizens to adjust demand over the trade cycle and achieve other objectives.

Question 6

What are exports?

Answer 6

Goods that are sold to consumers internationally after being produced in the UK.

Question 7

What are imports?

Answer 7

Goods that are bought by consumers in the UK from the rest of the world.

Question 8

What does the AD curve look like?

Answer 8

Slopes downwards.
x-axis = real GDP
y-axis = GPL

Question 9

Why does the AD curve slope downwards?

Answer 9

1. Wealth effect on consumption -> as GPL drops, wealth increases in real terms = positive wealth. People tend to consume more when they feel richer.
2. Interest rate effect on investment -> falling GPL reduces interest rates, cheaper for firms to borrow which incentivises investment.
3. Trade effect on net exports -> As GPL drops, exports become cheaper, imports become more expensive leading to positive net trade