Booklet Two

Question 1

What is aggregate demand?

Answer 1

The total planned spending on the output (goods and services) produced in an economy

Question 2

Aggregate demand is made up of 4 components

Answer 2

Consumption
Investment - spending by firms on capital
Government spending
Net exports - (exports-imports)

Question 3

Formula for aggregate demand

Answer 3

AD = C + I + G + ( X - M)
aggregate demand = consumption + investment + government spending + (exports - imports)

Question 4

what is consumption or consumer spending?

Answer 4

The act of using disposable income for the purchase of goods and services

Question 5

Consumers spending is divided into three main areas:

Answer 5

.consumer durable
.consumer non durable goods
.services

Question 6

Influences on consumer spending (7)

Answer 6

.Real income
.Unemployment
.Consumer confidence
.Wealth and the ‘wealth effect’
.Taxation
.Population
.Interest rates and the availability of credit

Question 7

what is interest?

Answer 7

interest is the cost of borrowing and the reward for saving with financial institution

Question 8

In the UK who is responsible for setting the interest rates (2%)

Answer 8

The bank of England

Question 9

what is the bank of England base rate?

Answer 9

5.25%

Question 10

when does the economy reaches a state of equilibrium?

Answer 10

when the rate of withdrawals = the rate
of injections.

Question 11

Interest payments that affects consumers : (4)

Answer 11

1)savings - interest for saving goes up meaning consumers are less likely to spend
2)Variable mortgage rates increase - disposable income decreases
3)Loan - interests rate are low people are more likely to take out a loan
4)credit

Question 12

what is consumer confidence?

Answer 12

Households willingness to spend their incomes and also take on debt

Question 13

Define marginal propensity to consume (MPC)

Answer 13

The portion of an increase in income that is spent

Question 14

What is the average propensity to consume (APC)

Answer 14

The proportion of a consumers total disposable income that they spend

Question 15

What is the multiplier effect?

Answer 15

The multiplier effect occurs when an initial increase in aggregate demand has a bigger impact on the real national income

Question 16

The multiplier effect process (4)

Answer 16

1)Initial increase in aggregate demand
2)Increases the real national output
3)Increase in consumers spending
4)Aggregate demand increase again

(The multiplier also works in reverse)

Question 17

Formular for calculating the size of the multiplier

Answer 17

Size of the multiplier = 1/(1-MPC) = 1/MPS

Question 18

The formula for the final increase in national income

Answer 18

Initial increase in spending X The value of the multiplier

Question 19

What is investment?

Answer 19

spending by firms on capital

Question 20

A country’s gross investment includes 2 parts
What are they?

Answer 20

Replacement investment - spending to fix old capital
Net investment - spending on new capital

Question 21

The determinants of investment in fixed capital are: (9)
(factors that influence the decisions of businesses or individuals to invest in long-term assets)

Answer 21

1)Price of labour
2)Price of capital
3)Consumer confidence
4)Technological change
5)taxation
6)interest rate
7)market growth
8)business cycle
9)Business confidence “animal spirits” Keynes

Question 22

what is the accelerator effect?

Answer 22

When an increase in a component of aggregate demand (e.g. consumption) leads to an increase in investment triggering a further increases in aggregate demand

Question 23

The accelerator effect process (4)

Answer 23

1)initial increase in aggregate demand
2)(some) firms need more capital to produce additional output
3)firms invest more
4)Aggregate demand increases again

Question 24

What is government spending?

Answer 24

expenditures made by the government in the economy (e.g. the public sector things such as hospital, prisons and schools)

Question 25

What is crowding out?

Answer 25

occurs when increased government spending leads to a decrease in private sector spending (businesses or individuals)

Question 26

what is short run growth?

Answer 26

The time period in which at least one factor of production is fixed in quantity
(a component in aggregate demand increases)

Question 27

what is long run growth?

Answer 27

The time period in which all factors of production are variable in quantity
(higher quantity/quality of factors of production or technology changes)

Question 28

what is the technical definition of a recession?

Answer 28

A recession is two consecutive quarters (6 months) of negative economic growth

Question 29

What is the marginal propensity to save?

Answer 29

The portion of an increase in income that is saved

Question 30

Factors that shift the LRAS curve to the right (classical or Keynesian) (8)

Answer 30

1)enterprise and innovation
2)education and training
3)increased productivity
4)discovery of natural resources
5)Population growth
6)New technology
7)increase in the size of the labour force
8)increased investment in capital

Question 31

What does YFE mean on the long run aggregate supply?

Answer 31

Full employment of all factors of production

Question 32

Factors that shift the LRAS curve to the left (classical or Keynesian) (4)

Answer 32

1)natural disaster or diseases
2)reduced productivity
3)net outward migration
4)capital investment below replacement level