2.2 Aggregate Demand

Question 1

• Define Aggregate Demand; What are the components of AD?
• What is the relationship between AD and the Price Level?

Answer 1

• total planned real expenditure on a country’s goods and services produced within an economy; C + I + G + (X-M)
• inverse relationship

Question 2

• What are the 3 key reasons for the shape of AD curves (sloping downwards)
• Explain each

Answer 2

• • Real Income Effect: as price falls, income rises; increasing consumer spending• Balance of Trade Effect: fall in price level of country x will increase price of foreign country goods = rise in exports, fall in imports• Interest Rate Effect: low inflation = reduction in interest rates - less incentive to save; exchange rate may depreciate and improve export sales

Question 3

• What causes a shift in AD?
• What are “external shocks” in AD?
• What are 5 examples?

Answer 3

• Increase/Decrease in: Consumer spending (C), Investments (I), Govt. spending (G), net exports (X-M)
• unexpected events that cause changes in demand, output and employment
• • Large rise/fall in exchange rate
  • recession/boom in a nation’s trading partners
  • Slump in housing market
  • Steep fall in of credit available to businesses + households (Global Financial Crisis 08’)
  • Global health crisis (COVID)

Question 4

• What is Consumption (C)?
• What are the 4 factors affecting Consumption?
• What is the wealth effect?

Answer 4

• spending on consumer goods/services
• • Real Disposable Income
  • Employment + Job Security
  • Household wealth
  • Confidence and Expectations (within the economy)
• a rise in wealth leads to an increase in consumer demand

Question 5

• What is the importance of consumer confidence?
• Define Marginal Propensity to Consume
• How does “Animal Spirit” link to consumer confidence? (Who discovered)

Answer 5

• measures consumer attitudes of various financial situations and views on a major purchase
• change in (consumer) spending following a change in disposable income
• Keynesian Economists believe the instincts and emotions that influencing human behaviour - high consumer confidence = high MPC