Macro L3 Flashcards
What are the reasons for a downward sloping AD curve?
- Wealth effect
- International trade effect
- Interest rate effect
Explain the wealth effect as a reason for a sloping AD curve
- As price levels increase, the value of wealth decreases as people feel worse-off and cut back on spending
- Less output is demanded (upward movement on AD curve)
What is wealth?
Value of assets people own
Explain the international trade effect as a reason for a sloping AD curve
- if domestic price level increases whilst other countries’ remain the same, exports fall as they are more expensive and imports rise as goods in other countries become relatively cheaper
- Net exports fall resulting in fall of output demanded (upward movement on AD curve)
Explain the interest rate effect as a reason for a sloping AD curve
- If price level increases, there is a greater demand for money
- Interests rates increase because of this leading to decrease in consumer purchases financed by borrowing and investment spending by firms
- Fall in output demanded (upward movement on AD curve)
What does each shift in an AD curve show?
- Rightward shift –> Increase in AD
- Leftward shift –> Decrease in AD
What tends to happen as real income rises?
Households tend to spend more
Marginal propensity to consume:
Proportion of increase in disposable income that households would devote to consumption
Marginal propensity to save:
Proportion of increase in disposable income that households would devote to saving
What are the determinants of consumption?
- Change in consumer confidence
- Change in interest rates
- Change in wealth
- Change in level of household indebtedness
Consumer confidence:
How optimistic consumers are about their future income and the future of the economy
What is the impact of a change in consumer confidence on consumption?
Greater the consumer confidence, the more likely consumers are to spend, increasing consumption resulting in a right shift in AD curve
What is the impact of a change in interests rates on consumption?
As interest rates increase, borrowing becomes more expensive, decreasing consumption which causes a left shift in AD curve
What causes a change in interest rates?
Monetary policies
What is the impact of a change in wealth on consumption?
As consumer wealth increases, greater consumer confidence, which increases consumption and results in a right shift in AD curve
