Aggregate Demand (AD)
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Transcript of Aggregate Demand (AD)
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Aggregate Demand
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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
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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)
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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)
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Components of aggregate demand
Consumer spending is the biggest single component of aggregate demand
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The UK Economic Cycle
Changes in the level of aggregate demand are key to understanding short term changes in a country’s economic cycle
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The Aggregate Demand Curve
Real National Output
Price Level
AD1
P1
Y1
P2
Y2
Contraction along AD curve
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The Aggregate Demand Curve
Real National Output
Price Level
AD1
P1
Y1
P2
Y2
P3
Y3
Expansion along AD curve
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Outward Shift in AD
RNO
Price Level
AD1
P1
Y1 Y2
AD2
Outward shift of AD curve
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Inward Shift in Aggregate Demand
Real National Output
Price Level
AD4
P1
Y4 Y3
AD3
Inward shift of AD curve
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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
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UK Policy Interest Rates
Falling interest rates – which in theory ought to bring about an increase in aggregate demand
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Sterling against the US dollar ($)
A depreciation in the value of the £ v the US $
Sterling has been stable against the $ since 2010
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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
![Page 15: Aggregate Demand (AD)](https://reader035.fdocuments.us/reader035/viewer/2022062511/54ce033f4a7959bb1e8b4572/html5/thumbnails/15.jpg)
UK Government Spending and Taxation
The Coalition Government has introduced a period of fiscal austerity – including deep cuts in government spending
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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
![Page 17: Aggregate Demand (AD)](https://reader035.fdocuments.us/reader035/viewer/2022062511/54ce033f4a7959bb1e8b4572/html5/thumbnails/17.jpg)
Business Confidence Affects Investment
Capital spending collapsed during the recession and has struggled to recover since
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Consumer sentiment is important for ADA change in sentiment is also a change in “animal spirits”
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Changes in unemployment directly affect ADThe unemployment rate is measured as a percentage of the labour force
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Changes in savings drive household spending
Disposable income can be spent or saved. A rise in savings brings about a contraction in consumption
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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
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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
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European Union
The European Union is the UK’s biggest trade partner accounting for over 55% of total exports and imports
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The economic cycle for the USA
How might stronger economic growth in the USA economy affect AD in the UK?
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China Economy
GDP growth in the Chinese economy is slowing down – consider what this might mean for the UK
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Test Yourself on Aggregate Demand!
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