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Components of Aggregate Demand
Transcript of Components of Aggregate Demand
Exports - Imports
Why is it downward sloping?
International Substitution Effect:
If prices are too high in the UK, people will substitute UK goods for foreign goods, increasing Imports
If prices levels rise, we can buy less with our money so we cut back on spending and real GDP falls
Remember your P's and Q's!
What affects consumer spending?
Factors Affecting Consumption
1. The interest rate
3. Wealth effects - house prices, share prices etc
- spending by firms
What affects the level of Investment in an economy?
Factors affecting Investment:
1. Interest rates
2. Confidence levels
4. Government regulations and interventions
4. Income levels
As real incomes rise, consumer spending should increase.
However, we have to take into account the
Marginal Propensity to Consumer (MPC)
This is the rate at which consumers will spend their income on consumption or save (withdrawal)
- The Budget
Spending - Taxes
If spending is greater than taxes, this will result in an injection into the circular flow and cause AD to increase
The UK has run a
for many years
This is fine in the short run, but can cause problems if sustained
- the Current Account
What affects Exports and Imports?
1. The exchange rate
2. Product competitiveness
3. Labour competitiveness
4. Global demand
5. The Propensity to Import
6. UK demand
A change in the exchange rate may have an OPPOSITE effect in the SHORT RUN.
Also, the PED for imports in the UK is pretty low (inelastic).
We import a lot our products into the UK so a fall in the value of the pound may actually have a negative effect on the Current Account as spending on Imports increases.
It may take time for British firms who import raw materials to find alternative suppliers after a fall in the value of the pound.
An increase in any of the components of AD will cause it to shift right. This will lead to an increase in Real GDP, but inflation may also increase.
Prepare a presentation on the components of Aggregate Demand and their effects on the economy
Fiscal policy involves the use of government spending, taxation and borrowing to affect the level and growth of aggregate demand, output and jobs