3.2.1 - Variations in Economic Activity - Aggregate Demand Flashcards
Define aggregate demand
Aggregate demand is the total expenditure on all final goods and services produced in the economy at a given price level and at a given point in time.
List the components of aggregate demand
AD = Consumption + Investment + Government Expenditure + Exports - Imports
AD = C + I + G + (X - M)
Draw and aggregate demand curve showing the average price level and Real GDP increasing.
Define Consumption (C)
Consumption is the household spending on final goods and services.
List the determinants of consumption.
- Interest rates
- Consumer confidence
- Household indebtedness
- Wealth
- Inflation
Explain interest rates as a determinant of consumption.
An interest rate is the cost borrowers pay for borrowed funds and the reward lenders receive for lending funds.
When interest rates increase, consumption decreases.
The relationship between consumption and interest rates exists due to:
- The cost of borrowing for expensive goods increases
- The reward for saving increases as interest rates increase
- The cost of existing borrowing increases as interest rates increase
Explain consumer confidence as a determinant of consumption.
Consumer confidence is household expectations of their future economic prospects.
If households feel optimistic about their future incomes, they will increase current consumption and vice-versa.
Explain household indebtedness as a determinant of consumption.
The higher the value of debt households hold, the lower their current level of consumption and vice-versa.
This is because households have less money for current consumption they need to repay debt and pay interest.
Explain wealth as a determinant of consumption.
Household wealth is the value of assets households own. These are assets that can be held in the form of cash, property, shares, etc.
When the value of wealth rises consumption rises and vice-versa.
