Aggregate Demand (AD)

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Revision presentation on aggregate demand - designed for unit2 AS macro students. AF=C+I+G+X-M

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Aggregate Demand (AD)

  1. 1. Aggregate Demand
  2. 2. Key Issues • • • • 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. 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. 4. Understanding Aggregate Demand • Aggregate Demand (AD) = – Total level of planned real expenditure on UK produced goods and services • The components of aggregate demand • • • • • • 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. 5. Components of aggregate demand Consumer spending is the biggest single component of aggregate demand
  6. 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. 7. The Aggregate Demand Curve Price Level P2 Contraction along AD curve P1 AD1 Y2 Y1 Real National Output
  8. 8. The Aggregate Demand Curve Price Level P2 P1 Expansion along AD curve P3 AD1 Y2 Y1 Y3 Real National Output
  9. 9. Outward Shift in AD Price Level Outward shift of AD curve P1 AD2 AD1 Y1 Y2 RNO
  10. 10. Inward Shift in Aggregate Demand Price Level Inward shift of AD curve P1 AD3 AD4 Y4 Y3 Real National Output
  11. 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. 12. UK Policy Interest Rates Falling interest rates – which in theory ought to bring about an increase in aggregate demand
  13. 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. 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. 15. UK Government Spending and Taxation The Coalition Government has introduced a period of fiscal austerity – including deep cuts in government spending
  16. 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. 17. Business Confidence Affects Investment Capital spending collapsed during the recession and has struggled to recover since
  18. 18. Consumer sentiment is important for AD A change in sentiment is also a change in “animal spirits”
  19. 19. Changes in unemployment directly affect AD The unemployment rate is measured as a percentage of the labour force
  20. 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. 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. 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. 23. European Union The European Union is the UK’s biggest trade partner accounting for over 55% of total exports and imports
  24. 24. The economic cycle for the USA How might stronger economic growth in the USA economy affect AD in the UK?
  25. 25. China Economy GDP growth in the Chinese economy is slowing down – consider what this might mean for the UK
  26. 26. Test Yourself on Aggregate Demand!
  27. 27. Tutor2u Economics Keep up-to-date with economics, resources, quizzes and worksheets for your economics course.

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