AD

Question 1

What are the main components of AD?

Answer 1

C+I+G+(X-M)

Question 2

How are the components of AD divided?

Answer 2

Consumption 60%
Investment 15-20%
Government spending 18-20%
Exports/Imports 5%

Question 3

What influences consumer spending?

Answer 3

Interest rates, consumer confidence , wealth effects, disposable income

Question 4

What causes a shift in AD?

Answer 4

(Any component of AD formula)

Question 5

What causes a movement along the AD curve?

Answer 5

A change in the general price level

Question 6

What is gross investment?

Answer 6

Gross investment is the total amount that the economy spends on new capita. E.g machinery

Question 7

What is net investment?

Answer 7

Net investment = gross investment – capital depreciation.

Question 8

What are the influences on investment?

Answer 8

The rate of economic growth , business confidence , ‘Animal spirits’, demand for exports , , interest rates, the influence of government , access to credit

Question 9

What is the wealth effect

Answer 9

a behavioral economic theory suggesting that people spend more as the value of their assets rise

Question 10

What are demand side policies?

Answer 10

Changes to government spending and taxation to boost AD

Involves Monetary and Fiscal policy

Question 11

How to calculate total change in AD?

Answer 11

Initial injection * multiplyer

Question 12

What affect does expansionary fiscal policy have?

Answer 12

-Boost economic growth
-Reduced unemployment
-Increase in inflation (demand-pull to meet target +/- 2%)
-redistribution income (welfare benefits

Question 13

What affect does contractionary fiscal policy have?

Answer 13

-reduced inflation
-reduced budget deficit
-redistribution of income (corporation tax e.g)
-reduced current account deficit

Question 14

What are the problems with expansionary fiscal policy?

Answer 14

-demand pull inflation
-current account deficit (higher incomes => demand for imports)
-worsening of gov. finances (increase spending)
-crowding out affect (reduction in private sector investment)
-x-inefficiency (actual costs are higher than potential costs for government)
-time lags

Question 15

Evaluation (HIDO) for expansionary fiscal policy?

Answer 15

-Output gap (how close to full employment, for policy to boost employment)
-Size of the multiplier (risk of demand pull inflation/hido need for multiplier , if already large)
-consumer/business confidence
-state of government finances (deficit/surplus)
-LR returns for government (tax rev)
-Automatic stabilisers (reduces need for exp. fiscal policy during recession)

Question 16

What is monetary policy?

Answer 16

Changes to interest rates to the money supply and the exchange rate , by the bank of England in order to influence AD

Question 17

Why is contractionary monetary policy used (QT) (increase interest rates)?

Answer 17

-reduce inflation
-prevent asset bubbles (borrowing)
-reduce excess debt (due to high spending)
-reduce current account defecit
-

Question 18

Why is expansionary monetary policy used?

Answer 18

-Increase inflation
-Increase growth
-Reduce unemployment

Question 19

What methods of expansionary monetary policy can be used?

Answer 19

QE, Reduced interest rates

Question 20

What does reduced interest rates effects?

Answer 20

-reduced :borrowings
-savings
-mortgages
-exchange rates (x-m)
-business loans

Question 21

What are the pros of contractionary monetary policy?

Answer 21

-reduced demand pull inflation (less chance for borrowing and asset bubbles)
-encourage saving
-more affordable housing (higher interest rates , reducing demand for mortgages => reduced prices)
-reduced current account deficit (reduced income for imports)
-flexibility for monetary policy

Question 22

What are the cons of contractionary monetary policy?

Answer 22

-lower growth
-higher unemployment
-reduced investment
-increase current account deficit (hot money inflow=> demand for currency => SPICED

Question 23

What is discretionary fiscal policy, and how is it different from contractionary or expansionary policy?

Answer 23

Discretionary fiscal policy is when the government intentionally changes spending or taxes to influence the economy—like passing new laws or budgets. (deliberate , not automatic)

Question 24

What are some cons for expansionary monetary policy?

Answer 24

-demand pull inflation
-current account deficit (increased incomes => demand for imports)
-Liquidity trap (people holding onto money)
-negative impact for savers
-time lags (18 months to take full affect , BOE)

Question 25

What are some evaluation points (HIDO) for expansionary monetary policy?

Answer 25

-Size of the output gap (could lead to inflation if close to YFE) -Consumer and business confidence -Banks willingness to lend -Size of the interest rate cut

Question 26

What causes the multiplier effect?

Answer 26

The multiplier effect is caused by an initial injection of spending Includes: . government spending, investment, or exports

Question 27

What is the relationship between interest rate and bond price?

Answer 27

High bond price=Low interest rate (Inversley)

Question 28

What is Quantitative Easing (QE)?

Answer 28

QE is a monetary policy tool where a central bank buys government bonds or other financial assets to inject money into the economy and stimulate spending. (second hand market for bonds)

Question 29

Why do central banks use QE?

Answer 29

To lower interest rates, increase money supply, encourage lending and investment, and combat low inflation or recession.

Question 30

What is the liquidity trap?

Answer 30

A situation where interest rates are very low and savings rates are high, making monetary policy ineffective. People prefer to hold cash instead of investing or spending, so even if the central bank injects money into the economy, demand doesn't increase. Often occurs during recessions or times of deflation.