This document discusses aggregate demand, which is the total planned spending on goods and services in an economy. It has four main components: consumer spending, investment spending, government spending, and net exports. Changes in aggregate demand are caused by factors like monetary policy, fiscal policy, business and consumer confidence, and external economic conditions. A rise in aggregate demand leads to increased output and employment as the economy expands along the aggregate demand curve, while a fall in aggregate demand causes contraction. The document examines how each of the components and various demand-side factors can influence aggregate demand in the UK economy.

1. Aggregate Demand

2. Key Issues
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What is aggregate demand?
What are the components of aggregate demand?
What causes changes in aggregate demand?
How does a change in AD cause changes in
output, employment and prices?
• Macroeconomic policy and aggregate demand

3. Key concepts
• Aggregate demand (AD)
– The total level of planned real expenditure on UK produced goods
and services
• Aggregate demand curve
– Shows the level of planned demand for real output consistent with
a particular price level
• Exports – Imports (X-M)
– The net trade balance
– Trade surplus (X>M) – a net injection of demand
– Trade deficit (X<M) – a net leakage of demand
• Government spending (G)
– Expenditure by central and local government on goods and
services (not including welfare benefits)

4. Understanding Aggregate Demand
• Aggregate Demand (AD) =
– Total level of planned real expenditure on UK produced goods and
services
• The components of aggregate demand
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•
•
•
•
•
Household Spending (C)
Gross Fixed Capital Spending (I)
Value of Change in Stocks (inventories)
Government Consumption (G)
Exports of Goods and Services (X)
(minus) Imports of Goods and Services (M)
• AD sums to GDP (expenditure based)

5. Components of aggregate demand
Consumer spending is the
biggest single component of
aggregate demand

6. The UK Economic Cycle
Changes in the level of aggregate
demand are key to understanding
short term changes in a country’s
economic cycle

7. The Aggregate Demand Curve
Price Level
P2
Contraction along
AD curve
P1
AD1
Y2
Y1
Real National Output

8. The Aggregate Demand Curve
Price Level
P2
P1
Expansion along
AD curve
P3
AD1
Y2
Y1
Y3
Real National Output

9. Outward Shift in AD
Price Level
Outward shift of
AD curve
P1
AD2
AD1
Y1
Y2
RNO

10. Inward Shift in Aggregate Demand
Price Level
Inward shift of AD
curve
P1
AD3
AD4
Y4
Y3
Real National Output

11. Some Causes of Changes in AD
Monetary Policy
• Higher or lower interest rates
• Change in supply of money
• Change in a country’s exchange rate
Fiscal Policy
• Changes in direct / indirect taxes
• Changes in government spending
• Changes in government borrowing
Business and Consumer confidence
• Planned investment spending
• Consumer confidence and retail spending

12. UK Policy Interest Rates
Falling interest rates –
which in theory ought to
bring about an increase
in aggregate demand

13. Sterling against the US dollar ($)
A depreciation in the
value of the £ v the US $
Sterling has been stable
against the $ since 2010

14. Some Causes of Changes in AD
Monetary Policy
• Higher or lower interest rates
• Change in supply of money
• Change in a country’s exchange rate
Fiscal Policy
• Changes in direct / indirect taxes
• Changes in government spending
• Changes in government borrowing
Business and Consumer confidence
• Planned investment spending
• Consumer confidence and retail spending

15. UK Government Spending and Taxation
The Coalition Government has introduced a period of fiscal austerity
– including deep cuts in government spending

16. Some Causes of Changes in AD
Monetary Policy
• Higher or lower interest rates
• Change in supply of money
• Change in a country’s exchange rate
Fiscal Policy
• Changes in direct / indirect taxes
• Changes in government spending
• Changes in government borrowing
Business and Consumer confidence
• Planned investment spending
• Consumer confidence and retail spending

17. Business Confidence Affects Investment
Capital spending collapsed
during the recession and has
struggled to recover since

18. Consumer sentiment is important for AD
A change in sentiment is also
a change in “animal spirits”

19. Changes in unemployment directly affect AD
The unemployment rate is
measured as a percentage of the
labour force

20. Changes in savings drive household spending
Disposable income can be spent or
saved. A rise in savings brings about a
contraction in consumption

21. External Factors and Aggregate Demand
Aggregate demand is also affected by macroeconomic
events and policies in other countries - these might
have a direct effect on the value of exports and
imports, or the rate of inflation or the exchange rate

22. External Factors and Aggregate Demand
Aggregate demand is also affected by macroeconomic
events and policies in other countries - these might
have a direct effect on the value of exports and
imports, or the rate of inflation or the exchange rate
EU economy
US Economy
Emerging
Markets

23. European Union
The European Union is the
UK’s biggest trade partner
accounting for over 55% of
total exports and imports

24. The economic cycle for the USA
How might stronger economic
growth in the USA economy
affect AD in the UK?

25. China Economy
GDP growth in the Chinese
economy is slowing down –
consider what this might mean
for the UK

26. Test Yourself on Aggregate Demand!

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