Aggregate Demand and Suppy

Question 1

What is the accepted general model of economic behaviour?

Answer 1

CIRCULAR FLOW OF INCOME MODEL

Question 2

What does the circular flow of income show?

Answer 2

Relationship between total flow of income, expenditure and output in the economy. Suggests the total level of economic activity can be measured in the prev 3 ways.

Question 3

What do households own?

Answer 3

Factor services i.e. land labour and capital which they supply in return for factor incomes (rent, wages, interest and profit. This money is then used as expenditure.

Question 4

What do firms do?

Answer 4

Produce goods and services by hiring FOP and then producing for households. They can also buy investment goods from other firms

Question 5

What are the two assumptions of the circular flow of income model?

Answer 5

Only two types of economic agent

Households own and supply all FOP.

Question 6

What is O?

Answer 6

National Output

- value of the flow of goods from firms to households which are expressed in real terms

Question 7

What is E?

Answer 7

National Expenditure

-value of spending by households on goods and services

Question 8

What is Y?

Answer 8

National Income

-value of income paid by firms to households for their LLC

Question 9

What are withdrawals and additions to the circular flow called?

Answer 9

Leakages and Injections

Question 10

Name the 3 leakages and 3 injections

Answer 10

Leakages; imports, savings, taxes

Injections; exports, investment, govt. expenditure

Question 11

What does the amt. of money that will be withdrawn from the circular flow depend on?

Answer 11

Average and marginal propensities to consume and save

Question 12

Define disposable income

Answer 12

Income households have to devote to consumption and saving… take into account payment of direct taxes and transfer payments.

Question 13

What two options do households have from their disposable income?

Answer 13

Spend or save

Question 14

Define average propensity to consume

Answer 14

Proportion of income households devote to consumer expenditure

e.g. if avg from every 100£ was 80£ spent APC would be 80%

Question 15

Define average propensity to save

Answer 15

Proportion of income households devote to saving

Question 16

Define marginal propensity to consume

Answer 16

Proportion of ADDITIONAL income households devote to consumer expenditure.

Question 17

Define marginal propensity to save

Answer 17

Proportion of ADDITIONAL income households devote to saving.

Question 18

What is marginal propensity to withdraw?

Answer 18

This is when money is withdrawn from the circular flow it includes mpt + mpm + mps
The Marginal Propensity to Tax (mpt)
The Marginal Propensity to Import (mpm)
The Marginal Propensity to save (mps)

Question 19

Define aggregate demand

Answer 19

The total demand for goods and services produced in an economy at a given PRICE LEVEL and in a given time period.

Question 20

Components of AD are…

Answer 20

C+I+G+(X-M)

The largest component is C.

Question 21

What does C depend on?

Answer 21

MPC and MPS and APS
Wealth - value of assets a household holds- higher wealth tend to spend more as greater C confidence
Increased house prices= increased confidence= increased spending
Rate of interest

Question 22

Define consumption function

Answer 22

Relationship between consumer expenditure and disposable income. Start from 1/4 way on graph and draw a demand curve. CE on Y axis and RI on X axis.

Question 23

What does I depend on?

Answer 23

Rate of interest and cost of borrowing

Rate of interest could also represent opportunity cost

Question 24

What does G depend on?

Answer 24

It is mainly autonomous and independant of the model.

Question 25

What does X-M depend on?

Answer 25

Exchange rate, relative prices of goods produced elsewhere

Question 26

Give the formula for the multiplier

Answer 26

MPW

Question 27

What does the Keynesian LRAS curve represent?

Answer 27

On the back of the Great Depression when the economy did NOT adjust and instead required war and government interference to fix this.

Question 28

What does the start of Keynes LRAS represent?

Answer 28

Enough spare capacity that we can increase output without increase in price level.

Question 29

AD DETAILED

Answer 29

NOTES

Question 30

What does Y2-YFE represent?

Answer 30

FOP become more scarce so price level starts to increase.

Question 31

YFE

Answer 31

Economy is at its full capacity so increase in demand only increases price level.

Question 32

Define LRAS

Answer 32

when FOP are variable e.g. price of inputs isn’t fixed.

Question 33

Give examples of supply side shocks

Answer 33

These are large changes in raw material costs, wage rates and taxation which can have a big impact on SRAS.