Aggregate demand

What is aggregate demand

The total demand for goods and services in a particular market at a given price and time

What is the equation of aggregate demand?

AD = consumer spending + investment spending + government spending + net exports

What is the equation for aggregate demand in short form?

AD = C + I + G + (X-M)

What does the term ‘marginal propensity to consume’ mean

The willingness of a household to spend the extra income they earn

How can you work out MPC

change in spending/change in income

What factors can affect consumption?

• Level of real disposable income

• Changes in interest rates e.g. cut rates makes cost of borrowing fall increased borrowing and reduced incentive to save

• Availability of credit - low means reduced impact of borrowing. Banks unwilling to lend

• Consumer confidence - job prospects/unemployment

• Asset prices e.g. house, share, bond prices

• Household debts

What are savings?

Part of disposable income that is not spent on goods and services immediately

• What factors affects household saving

• Level of real disposable income

• Real interest rate. Higher rate = more savinb

• Consumer confidence/market expectations

• Trust in financial institutions

• Taxation of savings e.g. an ISA

What is investment?

When firms spend money on capital goods to increase their productive capacity

What factors affect investment?

• Interest rates - borrowing is how businesses find money to invest. The hurdle = the required rate of return firms need for investment projects to go ahead

• Business confidence e.g. expected profit and demand

• Corporation tax - retained profit (profits after cor tax)

• Spare capacity

• Level of competition

• Price of capital

How can we evaluate a rise in business investment

• Some of the capital goods may be imported which is leakage from circular flow

• May be a time lag between getting more capital and productivity rising

• Some capital investment replaces labour = unemployment

What is the accelerator effect?

When there is an increase in rate of real GDP which encourages further investment

Evaluate: New capital can aid productivity and create additional capacity to supply

Might be a time lag between more capital and productivity rising

Evaluate: Creates extra demand in investment goods industries and can lead to multiplier effect on GDP

Some capital investment replaces labour and therefore might cause unemployment

Evaluate:Investment supports a country’s competitiveness and therefore improves trade balance

Many other factors affect competitiveness inc exchange rate

What are the different types of government spending?

• Current spending - maintenance of public services and public sector wages

• Capital spending - infrastructure

• Welfare spending - e.g. benefits and pension

• Debt interest payments - interests paid on debts

What is the difference between budget surplus and deficit?

Budget deficit: gov spending > tax revenue

Budget surplus: gov spending < tax revenue

What is national debt

The total stock of debt over time. Accumulation of years of budget deficits

What factors affect net exports

• Real disposable income abroad - higher = higher demand for exports

• Real disposable income earned at home - boom in UK = more imports

• Exchange rates - SPICED and WIDEC

• Level of protectionism - tariffs, quotas and other trade restrictions

• Relative inflation levels - high inflation = lower exports

SPICED

Strong pound imports cheap exports dear

Demand for imports rise and demand for exports will fall as they’re more expensive

WIDEC

Weak imports dear exports cheap

Imports become more expensive therefore expenditure on imports fall and exports are cheaper therefore demand and revenue increases

What are animal spirits?

Refers to a mix of confidence, trust, mood and expectations