Topic 7- Aggregate Demand

Question 1

Consumption

Answer 1

Total planned household spending

Question 2

Disposable income

Answer 2

The income that households have to devote to consumption nd savings taking into account payments of direct taxes and transfer payments

Question 3

Components of AD

Answer 3

G+I+C+(X-M)

Question 4

Average prosperity to consume

Answer 4

The proportion of income that household to consumption

Question 5

Marginal propensity to consume

Answer 5

The proportion of additional income devoted to consumption

Question 6

Factors which influence consumption
-interest rate (cost of credit)
Eval

Answer 6

Part of household spending is financed by borrowing

• increase in interest rates means cost of borrowing increases>consumption falls&encourages consumers to save because the return on saving is higher -rate of interest also have an indirect effect on consumption through its effects on the value of the assets holdings
• consumption may adjust to changes in its determinants after a time lag

Question 7

Factors which influence consumption

-Wealth effect

Answer 7

Wealth can be thought of in terms of their assets holdings of households

• if household experience an increase in the value of their asset holdings they may spend more
• E.g changes in house prices that affect the wealth of households may influence their expenditure if house prices increase households may be prepared to consume rather than spend

Question 8

Factors which influence consumption

-consumer confidence

Answer 8

If households feel secure in their jobs and future prospects for the economy then they are more likely to buy expensive items such as cars

Question 9

Factors which influence consumption

-The level of employment and wage rates

Answer 9

The higher the level of employment the more it will be spent in a country where it could lead to even higher employment

Question 10

Investment

Answer 10

Expenditure undertaken by firms to add to the capital stock

Question 11

Factors which influence investment

• interest rates
• past profits
• future state of the economy

Answer 11

• if firms need to borrow in order to invest they may be discouraged from spending on investment goods when the rate of interest is high
• firms may be able to use past profits to invest
• expectations about the future state of the economy effects investment e.g high rate of inflation increases uncertainty about the future>discouraging invest,met

Question 12

Factors which influence investment

• confidence levels
• government decisions

Answer 12

• if firms think that they will sell more in the future they are more likely to invest today
• if the gov decides to cut corporation tax (tax on profit) then firms are more likely to invest

Question 13

Factors which influence government spending

• fiscal or budget deficit
• fiscal or budget surplus

Answer 13

• If the government spends more than it earns=fiscal or budget deficit>increase the flow of income or AD
• If the government spends less than it earns=fiscal or budget surplus>decrease the flow of income or AD

Question 14

Factors which influence exports-imports(X-M) or net exports

-exchange rates

Answer 14

• exchange rate between the sterling and other currencies: if exchange rate rises net exports will fall as exports become less competitive (expensive)&imports become more competitive
• the extent to which changes in the exchange rate affects imports&export spending depends on PED of the goods e.g good=price Inelastic is imported (e.g oil) depreciation>increase in price>cause more money being spent on imports

Question 15

Factors which influence exports-imports(X-M) or net exports

• inflation
• income

Answer 15

• if UK inflation is high relative to other countries>UK exports less competitive and imports more expensive
• demand for imports into the UK will depend partly on the level of income in the UK and demand for UK exports will depend partly on the level of incomes of the rest of the world