Economics- Unit 2

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  • Created by: Sameerah
  • Created on: 20-02-12 14:47

The Economic Cycle

Definition: a term used to describe the tendancy of economic activity to cycle along it's trend path.


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Boom, Slump, Recession and Recovery

Recovery is not recognisable till several months after it has begun.

The indications are:

  • GDP
  • Inflation
  • Financial Markets
  • Unemployment

Each phrase of the cycle has effects on the economic variables of:

  • Employment
  • Economic Growth
  • Prices (Inflation)
  • The balance of payments
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Positve & Negative Output Gap

Postive Output Gap: occurs when actual output (GDP) is more than the full- capacity output. 

Negative Output Gap: occurs when actual output (GDP) is less than full-capacity output.

Positive Output Gap leads to:

  • Rapid economy growth
  • Low unemployment
  • High sales
  • Aggregate demand being greater than Aggregate supply
  • High inflation
  • The government then intervening to lower inflation & aggregate demand.

Negative Output Gap leads to:

  • Slowed economy growth
  • High unemployment
  • Falling or low sales
  • Recession/Recovery
  • The government intervening to increase aggregate demand.
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Aggregate Demand

Definition: total planned spending/expenditure of goods and services in the economy.

Formula: AD= +++(X-M)

+C= Consumer Spending/expenditure on goods and services

+I= Investment (spending by firms) on machinery-capital and changes in inventories (stock).

+G= Government Expenditure on state-provided goods and services including public goods and merit goods.

+X= Exports of goods and services- spending by foreigners on UK produced goods.

-M= Imports of goods and services- spending by UK households, firms & government in goods produced abroad.

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Determinants of Aggregate Demand

Determinants Of AD (Aggregate Demand)

- Consumer spending-consumption is likely to change in response to:

  • Income
  • Consumer confidence
  • Cost and availability of credit
  • Savings

-  Government spending-depends largely on political priorities. 

 Certain areas of government spending in essential services are relatively stable. such as education, the police and armed forces.

- Investment-spending by firms that is mainly influenced by expected levels of national output.

Investment is partially crucial to the economy because it can also result in the accelerator effect. 

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Determinants of Aggregate Demand

Accelerator Effect: the proportionally bigger effect on investment that is likely to be caused by a given change in demand.

Net Exports ( Exports - Imports)-exports and imports are influenced by the rates of inflation and the exchange rate.

When net exports are positive, there is a trade surplus (adding to AD); when net exports are negative, there is a trade deficit (reducing AD).

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Aggregate Demand Curve

AD Curve


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