Aggregate Demand & Supply

T2 CC2 (keywords)

Aggregate Demand

The total planned expenditure in an economy at any given possible overall price level. AD = C + I + G + (X-M)

Aggregate Supply

The total quantity of goods and services firms are willing and able to produce at each price level. It is the sum of all industry supply at each level of prices.

Equilibrium

When the price level and the level of real output at which planned aggregate demand is equal to planned aggregate supply. At equilibrium there will be no tendency for the economy’s price level or level of real output to change.

Injections

In the circular flow of income, spending which is not generated by households including investment, government spending and exports.

Withdrawals (or leakages)

In the circular flow of income, spending by households which does not flow back to domestic firms. It includes savings, taxes and imports.

Multiplier Effect

Where an increase or decrease in Aggregate Demand due to an injection or withdrawal from the circular flow of income, leads to a larger final change in National Income (GDP).

Marginal Propensity to Consume (MPC)

The proportion of a change in disposable income which is spent on goods/services in the domestic economy. (MPC = ∆C/∆Yd)

Marginal Propensity to Save (MPS)

The proportion that is saved out of a change in disposable income. (MPS = ∆S/∆Yd)

Multiplier Formula (in a closed economy with no government)

Multiplier (k) = 1/(1-MPC) = 1/MPS

Marginal Propensity to Import (MPM)

The proportion of a change in disposable income which is spent on imports. (MPM = ∆M/∆Yd)

Marginal Propensity to Tax (MPT)

The proportion of a change in income which is paid in tax. MPT = ∆T/∆Y (NB: in the UK this would be 0%/20%/40%/45% dependent on your income bracket)

Marginal Propensity to Withdraw (MPW)

(MPW) = MPS + MPM + MPT

Multiplier formula (in an open economy with a government)

Multiplier(k) = 1/MPW = 1/(MPS+MPM+MPT)

Change in National Income

Change in income = multiplier(k) x change in injection into circular flow.