Aggregate Demand Flashcards
What does the Aggregate Demand (AD) curve show?
The AD curve shows the relationship between the level of real planned expenditure and the general price level in an economy.
What is the formula for Aggregate Demand?
AD = C + I + G + X - M
What happens to AD when the general price level falls?
A fall in the general price level causes an extension of AD, resulting in higher real income.
What happens to AD when the general price level rises?
A rise in the general price level causes a contraction of AD, resulting in lower real income.
Why is the relationship between price level and AD inverse?
The relationship is inverse due to the real income effect, balance of trade effect, and interest rate effect.
What is the real income effect?
As the price level falls, the real value of income rises, allowing consumers to buy more, thus increasing consumption.
What is the balance of trade effect?
A fall in the relative price level can make foreign-produced goods more expensive, leading to a rise in exports and a fall in imports.
What is the interest rate effect?
Low price inflation may lead to reduced interest rates, increasing consumption and improving net exports.
What does a rightward shift in the AD curve indicate?
A rightward shift indicates an increase in AD due to factors other than a change in the price level.
What does a leftward shift in the AD curve indicate?
A leftward shift indicates a decrease in AD due to factors other than a change in the price level.
What factors can shift the AD curve?
Factors include changes in real income, consumer and business confidence, household wealth, monetary policy, fiscal policy, and exchange rates.
What is the wealth effect?
When asset prices increase, people feel wealthier and are more likely to spend rather than save.
What is the role of monetary policy in AD?
Lower interest rates make borrowing cheaper, encouraging spending and investment.
How does fiscal policy influence AD?
Government spending and tax cuts can increase consumption and investment, boosting AD.
What is the paradox of thrift?
The paradox of thrift states that an increase in saving can lead to a decrease in economic activity and overall saving.
What is investment in the context of AD?
Investment refers to the addition to the capital stock of the economy, such as factories and equipment.
What is the difference between gross and net investment?
Gross investment is total investment before depreciation, while net investment is gross investment minus depreciation.
What factors influence investment?
Factors include interest rates, availability of finance, demand for final products, business confidence, corporate taxes, and technological change.
How does investment impact AD?
Investment adds to aggregate demand, causing short-run growth and influencing long-run aggregate supply.
What is the significance of consumer confidence?
High consumer confidence leads to increased spending, boosting AD.
What is the average propensity to consume (APC)?
APC = C/Y, where C is consumption and Y is national income.
What is the marginal propensity to consume (MPC)?
MPC = change in C/change in Y, indicating how consumption changes with income.
What is the average propensity to save (APS)?
APS = S/Y, where S is saving and Y is national income.
What is the marginal propensity to save (MPS)?
MPS = change in S/change in Y, indicating how saving changes with income.
