Aggregate Supply, Aggregate demand and the circular flow

Question 1

What flows from households to businesses in the circular flow

Answer 1

Consumption/Expenditure
Factor services (F.O.P)

Question 2

What flows from businesses to households in the circular flow

Answer 2

Outputs of goods and services
Factor Payments (Complement F.O.P)

Question 3

What are the three injections into the circular flow of income

Answer 3

Gov Spending
Exports
Investment

Question 4

What are the three withdrawals/leakages from the circular flow of income

Answer 4

Taxation
Imports
Savings

Question 5

What are the components of Aggregate Demand

Answer 5

Consumption + Investment + Government Spending + Exports - Imports

Question 6

Why is there an inverse relationship between Price Level and AD (3 factors)

Answer 6

Wealth effect
Rate of interest effect
International trade effect

Question 7

What is the wealth effect

Answer 7

As PL falls goods become less expensive therefore a fixed level of wealth can buy more goods and services. There is an increase in consumption, Investment and Gov spending due to lower prices and increased confidence

Question 8

What is the international trade effect

Answer 8

As price falls domestically, domestic goods become cheaper RELATIVE to imported substitute goods. This reduces Imports and increases Exports

Question 9

As consumption is a component of AD, when it is effected positively by ____a_____ factors it causes AD to shift ____b____ and vice versa

Answer 9

a - Non-price
b - right

Question 10

Give examples of non-price factors that effect Consumption

Answer 10

Income Tax increase
Wealth (house prices fall)
Confidence
Interest rates
Saving
Etc

Question 11

A component of AD that could shift it is Investment, name some factors around Investment which could shift AD

Answer 11

Interest rates
Confidence
Change in Tax
Profit
Etc

Question 12

Components of AD that could shift it is Imports and Exports, name some factors around Imports and exports which could shift AD

Answer 12

The exchange rate

Question 13

How will the exchange rate effect the Trade Balance

Answer 13

SPICED

Strong Pound , Imports Cheaper , Exports Dearer

So a strong currency actually worsens Trade balance in terms of AD shifting it Left as Imported goods become cheaper than exported goods

Question 14

Why is SRAS upwards sloping

Answer 14

As cost of production remains unchanged in the short-term (sticky) because of contracts. So, if average process of finished goods increase production of all goods becomes more profitable so supply increases

Question 15

What factors revolving around cost of production yet excluding resource price as it is fixed will shift SRAS

Answer 15

Taxes
Productivity
Subsidies
Etc

Question 16

If price level is above equilibrium in an SRAS AD graph what is there

Answer 16

Excess supply , resulting in surplus which drives down PL until it returns to equilibrium

Question 17

What short hand symbol due you use to notate Real GDP points

Answer 17

Y

Question 18

If price level is above equilibrium in an SRAS AD graph what is there

Answer 18

Excess Demand, which drives up PL until it returns to equilibrium

Question 19

Classical LRAS shows what and at what point

Answer 19

Shows the level of output that could be achieved if all factors of production were being fully and sustainably utilised (Yfe)

Question 20

What is the summary of the Classical LRAS argument

Answer 20

In a long-term period costs of production including wages will change to match the price level so the PL wont actually affect the economies real level of output produced

Question 21

Explain how an inward shift in AD causing a change in real GDP will be restored to the same point in the long-run in terms of classical LRAS

Answer 21

AD shift out
New equilibrium at Lower price and Real GDP level
As resources such as workers are not being fully utilised it makes them more disposable due to their lowered demand on the large-scale.
This means wages can be decreased reducing cost of production.
This causes an outward shift in SRAS which puts the equilibrium point back at Yfe just at a lower Price Level

Question 22

What is the key difference between Keynesian LRAS and classical

Answer 22

Markets have no self-balancing mechanisms so gov intervention is needed to fix an output gap

Question 23

Reasons for Keynesian LRAS

Answer 23

Wage rigidity downwards - wages dont adjust downwards for reasons such as empathy and contracts

Question 24

Explain Flat section of Keynesian LRAS

Answer 24

Output is significantly lower than Yfe
Increase in AD will have large impact on output
This is explained as it it easy to increase production with so many spare resources

Question 25

Explain Middle section of Keynesian LRAS

Answer 25

As AD rises output (Real GDP) rises with it
Firms will prioritse hiring most productive workers decreasing the quality of the left over workers in the output gap explaining the growing steepness of the curve as the same shift in AD has a lesser effect with the resources available being of a worse quality

Question 26

Explain Vertical section of Keynesian LRAS

Answer 26

Economy is at Yfe
Therefore any change in AD wont yield any change as all resources are already being used to their sustainable maximum.
Therefore increase/shift in AD will only be inflationary

Question 27

A shift in either LRAS will be due to two broad factors

Answer 27

An increase in quantity of F.O.P available in economy
An increase in quality of F.O.P available in economy