Aggregate Demand + Aggregate Supply Flashcards
What is the AD formula
AD = C + I + G + (X - M)
What doesn’t government spending include
Transfers of money
What is government spending component of aggregate demand
Money spent by government on goods on public goods + services
Only money that directly contributes to output of the economy is included
Define government budget
Outlines a government’s planned spending + revenue for the next year
What is a budget deficit
If government spending is greater than its revenue
Define budget surplus
If government spending ie less than its revenue
Why do governments use fiscal policy
To alter their spending + taxation influence
If AD is low and economic growth is slow/negative then what will the government do
Government may overspend (causing a budget deficit) in order to increase AD and boost economic growth
What will a government do if AD is high and the economy is experiencing a boom
Government may increase taxes and spend less (causing budget surplus) to try and reduce AD and slow down economic growth
What will an imbalance in the budget affect
The circular flow of income
What will a budget surplus indicate
Overall withdrawal from the circular flow
What does a budget deficit indicate
Overall injection into the circular flow
Imbalance in the budget is fine in the short run, but in the long run..
Governemtns will try to balance out any surpluses or deficits
What does a long term surplus mean
Government is harming economic growth by choosing not to spend, or by keeping taxes too high
What does a long term deficit indicate
Country has a large national debt
Define exports
Goods or services that are produced in one country, then sold in another
Define imports
Goods + services that are brought into a country after being produced elsewhere
What do exports do to the circular flow of income
Injects money into the circular flow of income
What is net exports
(X - M)
What are the factors that will affect imports and exports
The exchange rate
LR - value for currency increases, imports become cheaper + exports become more expensive for foreigners. Therfore demand for imports increases + demand for exports falls
Changes in the state of the world economy
Higher real income in country -> more it imports
Therefore net exports fall as income rises
Degree of protectionism
In SR - tariffs + quotas increase net exports by reducing imports
Industries that are protected from international competition have few incentives to become more efficient, exporting less in LR
Non price factors
Quality of goods
People are willing to pay more for something if it is really good -> improvement in net exports
What will be on the x and y axis of the AD curve
Price level on y axis
Real national output on x axis
A rise in price level will cause output to fall because
Things become more expensive, people can purchase fewer goods + services
Demand for exports reduced - domestically produced produced become less competitive
Demand for imports will increase if their prices haven’t risen, making them cheaper
Why will the AD curve shift to the right
Rise in consumption, investment, government spending or net exports that hasn’t been caused by a change in the price level
What does an increase in AD mean for Labour
Labour is a derived demand
Increse in AD means output increases, increasing demand for Labour -> creating more jobs.-> increase in employment levels
Why might the AD curve shift to the left
Fall in consumption, investment, government spending or next exports that hasn’t hasn’t caused by a change in the price level
What does the multiplier effect lead to
A larger increase in aggregate demand
E.g. gov injectes money into health care, money may be used for wages, money then spent by consumers, increasing consumption, creating a second increase in AD (continues till all the money has leaked out)
What does the size of the multiplier depend on
The size of the leakages
An initial injection of £50m is estimated to cause a total change in national income of £75m. Find the size of the multiplier
Multiplier = change in national income/ initial injection
75 / 50 = 1.5
What is the multiplier effect
When an injection is made into the circular flow, the actual change in the national income is greater than the initial injection
What is the multiplier effect
When an injection is made into the circular flow, the actual change in the national income is greater than the initial injection
What are the two types of AS curve
SRAS curve
LRAS curve
What are the properties of an SRAS curve
Slope up from left to right
Draw an SRAS curve
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Properties of an LRAS curve
Assumed in long run economy will move towards equilibrium where all resources are being used to full capacity. So the economy is running at its full productive potential
LRAS curve is vertical.
Increase in price level won’t cause an increase in output as economy is running at full capacity, so can’t create any more output
What causes the SRAS curve to shift
Change in the costs of production
What causes the LRAS curve to shift
Changes in factors of production
Changes in factors of production which affect the capacity of the economy
E.g. investment that leads to advances in technology + more efficient production
Improvement in education + skills - more productive workers -> max output increased
Demographic changes- skilled workers migrating to a country change economy capacity
A rise in demand might cause an …… increase in investment
Accelerated
Firms will make accelerated investment in capital goods, expecting to increase output and make profit in future
Likely to occur when economy is going through a recovery, or at the start of a boom (these are times where demand will be rapidly increasing and firms will need to invest to meet this demand)
If national income is growing rapidly, businesses will invest heavily
How does the multiplier and accelerator work together
During a recovery, AD will be growing
Firms increase their level of investment -> leads to another increase in AD -> then multiplied making the growth in national income more rapid -> more accelerated investment
Where does macroeconomic equilibrium occur
When AS = AD
Increase in AD alone can increase output in the
Short run
Draw an SRAS curve with an AD curve
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Draw an LRAS curve
….
Look at multipler
..
What will a shift to the right of an SRAS curve cause
Increase in capacity of economy
Increase in output -> increased economic growth-> more jobs reducing unemployment -> price level tends to fall and the economy will become more competitive internationally, improving the balance of payments
What would a decrease in AS cause
Worsen the state of all four macroeconomic indicators
If LRAS shifts right
Output is increased, price level falls, balance of payments will potentially improve and the economy remains at full employment
If LRAS shifts right
Output is increased, price level falls, balance of payments will potentially improve and the economy remains at full employment
What is the economy made up of
Firms + households
What is national income
Money paid by firms for these factors of production to households
Draw the circular flow of income
…
What are the two flows in the circular flow of income
Physical flow (real things) - straight arrows
Monetary flow (curved arrows) - money that pays for physical things
What are injections
Exports, investment, gov spending
To firms
What are withdrawals
Imports, savings, taxes
To households or firms
What does it mean if injections = withdrawals
Economy in equilibrium
What does it mean if injections into the circular flow of income is greater than withdrawals
Expenditure greater than output
If withdrawals are greater than injection
Output is greater than expenditure
What does the size of the multiplier depend on
The size of the leak
Define wealth
Total value of the assets owned by individuals
Stock concept -> pile of resources not being used by the circular flow of income -> could be at some point
What are assets
Money, physical items
What is aggregate demand
Total demand or spending over a period of time in an economy
What are the factors that affect investment
Risk
Gov incentives + regulation
Interest rates + access to credit
Technical advice
Business confidence + animal spirits
What doesn’t government spending include
Transfers of money
What does it mean if there is a budget deficit
Government spending more than the revenue they are receiving
What is a budget surplus
Government spending less than they are receiving from revenue
What is a surplus
More of an item than needed
What are commodities
raw materials that are used in the production of goods and services
