Macroeconomics - AD and AS

Chapter 1: Economic Activity and Living Standards

• Economic activity exists to improve living standards, which can be material (based on goods, services, and income) or non-material (quality of life, including environmental factors, health, and personal freedoms).

• Material living standards depend on GDP per capita, income distribution, employment, inflation, and access to goods.

• Non-material living standards include happiness, health, environmental quality, crime rates, leisure time, and education.

• The relationship between material and non-material living standards can be conflicting (economic growth can harm the environment) or compatible (higher incomes can fund healthcare and education).

Chapter 2: Measuring Economic Activity and Its Impact

• Economic activity refers to production, employment, and income generation, influencing material and non-material living standards.

• Measured using Gross Domestic Product (GDP), which represents the market value of all final goods and services produced.

• Economic activity fluctuates, impacting employment, income, inflation, and overall societal well-being.

• Government policies aim to maintain sustainable growth, full employment, and low inflation.

Chapter 3: The Business Cycle

• Economic activity follows a cyclical pattern, known as the business cycle, consisting of four phases:

  1. Expansion: Increasing GDP, falling unemployment, and rising inflation.

  2. Peak: Maximum growth, potential inflationary pressures.

  3. Contraction: Slowing GDP, rising unemployment, and declining inflation.

  4. Trough: Low GDP, high unemployment, risk of recession.

• Governments attempt to stabilize the economy by targeting domestic economic stability (steady growth, low unemployment, controlled inflation).

• Stagflation (high inflation and unemployment together) is an abnormal situation that disrupts normal economic cycles.

Chapter 4: The Circular Flow Model of Income

• The economy operates through five sectors:

  1. Households (consumers)

  2. Businesses (producers)

  3. Financial sector (banks, investment)

  4. Government (taxes and spending)

  5. Overseas sector (trade)

• Economic activity is influenced by leakages (savings, taxes, imports) and injections (investment, government spending, exports).

• Aggregate demand (AD = C + I + G + X – M) and aggregate supply determine short-term and long-term economic growth.

Chapter 5: Aggregate Demand (AD) and Factors Affecting It

• Aggregate Demand (AD) is the total spending in the economy, comprising:

  • Consumption (C) – Household spending

  • Investment (I) – Business capital expenditure

  • Government spending (G) – Public services and infrastructure

  • Net exports (X – M) – Exports minus imports

• AD is affected by:

  • Consumer and business confidence

  • Interest rates (affecting borrowing and investment)

  • Government policies (taxation and spending)

  • Exchange rates (impacting trade)

  • Global economic conditions

• Changes in AD influence inflation, employment, and GDP growth.

Chapter 6: Aggregate Supply (AS) and Factors Affecting It

• Aggregate Supply (AS) refers to the total output of goods and services an economy can produce.

• Key AS factors:

  • Resource availability (labour, capital, natural resources)

  • Production costs (wages, taxes, raw materials)

  • Technological advancements (increasing efficiency)

  • Climate conditions (affecting agriculture and infrastructure)

  • Government regulations (environmental policies, infrastructure investment)

• Favourable AS conditions lead to higher economic growth, lower unemployment, and improved living standards.

• Unfavourable AS conditions (e.g., supply chain disruptions, high costs) can slow growth and worsen inflation.

Chapter 7: Policy Interventions and Macroeconomic Goals

• Governments use monetary policy (adjusting interest rates) and fiscal policy (taxation and spending) to regulate AD and AS.

• Macroeconomic goals include:

  • Sustainable growth (around 3% GDP growth annually)

  • Full employment (low unemployment rates)

  • Low inflation (2-3% per year)

  • Equitable income distribution

  • Environmental sustainability

• Trade-offs exist: Policies that boost GDP can harm the environment or worsen income inequality.