Unit 6 Flashcards
What is the wealth effect
When the aggregate price rises, this reduce the purchasing power of households wealth and reduces consumer spending
What is the interest rate effect
When there is higher aggregate price it reduces the purchasing power of households
This leads to individuals holding more cash to purchases the same amount of goods
This leads to a rise in interest rates and a fall in investment spending and consumer spending
What causes shifts in the aggregate demand curve
changes in expectation
changes in wealth
the size of the stock of physical capital
gov policies
How do changes in expectation affect the aggregate demand
If consumers and firms become more optimistic, consumer
spending and investment spending rise → AD increases.
* If consumers and firms become more pessimistic: AD decreases.
How do changes in wealth affect aggregate demand
If the real value of household assets rises (e.g. due a booming
stock market), consumer spending rises and AD increases.
* If the real value of household assets falls, AD decreases.
How does the size of existing stock of physical capital affect aggregate demand
If the existing stock of physical capital is relatively small,
investment spending rises and AD increases.
* If the existing stock of physical capital is relatively large, AD
decreases
How does fiscal policy affect aggregate demand
An increase in gov’t spending on goods and services (G) has
a direct effect on total spending → AD increases.
* Taxes (T) and Transfers (TR) affect households’ disposable
income and hence consumer spending:
➢ a cut in taxes or an increase in transfers leads to higher
consumer spending → AD increases.
* A decrease in spending or transfers, or a rise in taxes → AD
decreases.
How does monetary policy affect aggregate spending
An increase in the quantity of money (when policy
makers increase the money supply) and lower interest
rates → higher investment spending and consumer
spending and AD increases.
* A reduction in the quantity of money → AD decreases.
What causes a movement along the aggregate demand curve
When a change in the aggregate price level causes a change in the purchasing power of consumers existing wealth
What does the aggregate supply curve show
It shows the relationship between the aggregate price level and the quantity of aggregate output in the economy
What is a nominal wage
They are the dollar amount of the wage paid
What are sticky wages
Sticky wages are nominal wages that are slow to adjust, slow to rise in good times and slow to fall in bad times
In competitive markets, how do producers price their products
They take prices as given, when the market price increases and production costs remain fixed this raises the firms profit per unit meaning that firms will increase production
In imperfectly competitive markets how do producers set their price
They set their own prices meaning that when there is a strong increase in demand they will increase their price and also the quantity supplied
What causes shift is the short-run aggregate supply curve
Changes in nominal wages
Changes in productivity
Changes in commodity prices
