Chapter 14 - Aggregate Demand

What is AD made up of…. and what are the other words for AD?

AD = C + I + G + (x-m)

C - 67%

GDP

Y

E

O

Aggregate Demand Meaning

Total level of planned real expenditure on the goods and services produced within a country like UK.

What are words for GPL?

APL, Inflation

What is the AD curve?

What does the curve show?

At GPL1 → Y1

When the price increases from GP1 → 2, real GDP falls from Y1 → Y2, causing a contraction of AD because consumers purchasing power falls meaning consumers cannot consume as much now - the real value of money balances declines

What causes change in AD?

Change in price level, movement along AD curve, from one level of real output to another.

Increase in any components of AD, will increase AD.

Why the curve slopes downwards?

Falling real incomes - As price level rises, the real value of income falls.

Balance of trade - rise in country x, means foreign G/S causing a fall in exports/ and a rise in imports/

Why is M part of the AD curve?

You can import different parts of a product to then import it. Example, importing steel to make a stapler - making a semi finished product, fully finished.

What is ceteris paribus?

Everything else remains constant. If the price of a good increases, the quantity demanded decreases.

What do shifts of AD curve look like? - when do they happen?

When there is a shift in demand and not because of a change in price.

What does an inward/outward shift do?

Outward - will raise national output at all price levels.

Inward - will reduce national output at all price levels

Why is AD changing?

A change in any of the components of AD will cause a shift in demand curve when there is ceteris paribus → everything is equal.

What causes change in consumption?

Change in income taxes

Change in IR

Consumer confidence about economic future increases

Levels of household indebtedness

Why does a change in income taxes cause change in consumption?

If there an increase in income taxes, disposable income decreases, so does AD and therefore consumption.

If tax decreases, more disposable income, so consumption and AD increase

Why does a change in IR cause change in consumption?

If IR increase, the cost of borrowing increases and the reward for saving increases, so consumption decreases is it’s more costly to borrow and you get more reward for saving

Why does a change in consumer confidence have a change in consumption?

If consumer confidence increases and confidence about the economic future increases, then you are likely to spend more.

Why does a change in levels of household indebtedness have a change in consumption?

Extent to which households will borrow money. If it’s easy to borrow money, likely to spend credit.

What causes change in investment?

Change in IR

Changes in business taxes - if govt increase business taxes, less to invest, decrease in AD

Technological change - Firms needs to keep investing in this in order to keep up with competitors.

Level of corporate indebtedness - If its easy to borrow you are more likely to invest

What are some examples of causes of fall in AD?

• Fall in exports

• Cut in govt spending

• Higher IR
  Decline in household wealth

What are some examples of causes of an increase in AD?

• Depreciation of exchange rate, as it is cheaper to export, and cheaper for abroad people to import

• Increase in house prices

• Expansion of supply of credit and lower IR

What causes change in government spending?

Depends of economic and political priorities of gov. If they support an industry, spending will increase , and if they want to corrrect market failure spending will decrease. If spending does increase though, AD will shift to the right.

What are changes in net exports?

Net exports are the difference between export revenues and import expenditure over a given period of time.

What will positive and negative change in exports do?

A positive (X-M) a trade surplus will shift AD to the right. Negative (X-M) a trade deficit, will shift AD to the left. Example - If chinese economy increases, European exports will also increase, as Chinese have more money now so more willing and able to buy from Europe.