AD Determinants Flashcards
Why does the AD curve slope downwards?
- Real income effect: as the price level falls, the real value of income rises, so consumers can buy more
- Balance of trade effect: a fall in the price level could make foreign produced goods and services more expensive, causing a rise in exports and a fall in imports
- Interest rate effect: fall in price level leads to a reduction in interest rates, so there is less incentive to save, and could cause the exchange rate to depreciate an improved export sales
Examples of external shocks that could shift the aggregate demand curve
– Changes in the value of the exchange rate
– Recessions or booms in key trading partner countries
– Events such as the global financial crisis causing falls in the supply of credit available
What are called factor returns or factor rewards?
Income comes from providing factors of production.
Labour– wages
Land – rent
Capital– Interest
Entrepreneurship – profit/dividends
Note that pensions/benefits count as transfers
MPC
Marginal propensity to consume is the change in spending following a change in income/the proportion of additional income that is spent
Note: average propensity to consume, is the proportion of income that is spent
(Same goes for MPS & APS)
What is the difference between income and wealth?
Income is a flow and comes from providing factors of production, whereas wealth is a stock of assets
What factors affect consumer spending?
Real disposable income, employment and job security sometimes described by Keynesian economists as animal spirits, household wealth, market interest rates
What is the difference between secured and unsecured loans?
Secured loans mean that the money you borrowed is secured against an asset you own usually your home, whereas unsecured loans are supported only by a borrowers creditworthiness rather than any type of collateral.
Debt in the UK timeline
– Rose sharply from the late 1990s
– Peaked at 148% in early 2008
– Recession made banks, more reluctant to lend money and consumers well less inclined to take on credit so debt-to-income ratio fell to 127% by 2015.
Factors that affect household saving
– Many inverse to consumption previous
– Taxation of savings
– Trust in savings institutions
– Availability of credit 
Investment
Spending by businesses on capital goods
Capital goods
Produced for the purpose of the goods and services they can produce in the future e.g. machinery
Note: different from financial capital, which is funds available to finance the production/acquisition of real capital
What is the difference between gross and net investment?
Gross – total investment on new capital inputs
Net – gross investment adjusted for capital consumption (depreciation- the replacement of worn out machinery)
Factors influencing business/ private sector investment
- expected demand for goods and services
- cost of capital
- availability of credit
- business tax
- animal spirits
- government intervention EG subsidies
Macroeconomic advantages of a higher level of business investment
- injection into the circular flow of income- component of AD
- new capital can aid productivity and create additional capacity
- can lead to strong multiplier effects on GDP
- supports a country’s competitiveness so improves trade balance
Macroeconomic disadvantages of business investment
- some capital goods could be imported- withdrawal / leakage
- perhaps lengthy time lag between workers gaining capital and productivity rising
- capital investment could replace labour causing short-term unemployment
