Economics- Unit 2

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

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

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.

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

Formula: AD= C +I +G +(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.

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. 

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).

AD Curve