AS Economics: Aggregate Demand and Aggregate Supply Theory

How will the aggregate demand in the UK economy be affected by the following events? In each
case, assume other factors held constant

Economic Events Likely impact on Evaluation Points

aggregate demand
(AD) What else might happen as
a result of this event which
(rise / fall ) might offset / reverse the
change mentioned?

1 The government decides to decrease the basic C rises -> AD shifts P2>P1 – Y2 >YN (SR)
percentage rate of income tax from 20% to 18% right (SR) -> SRAS
shifs left (LR) P3>P2 – Y2 = YN (LR)

2 There is a sustained fall in the real value of UK I falls -> AD shifts left P2<P1 – Y2<YN (SR)
property prices (SR) -> SRAS shifts
right (LR) P3<P2 – Y2 = YN (LR)

3 The government announces a temporary two-

year reduction in the standard rate of value
added tax (VAT) from 20% to 15%

4 There is a sustained increase in the value of the

pound against the US dollar on the foreign
exchange market

5 Over a period of a year, the annual rate of

inflation falls from 45 to 2% whilst money wages
rise by 4% over the same time period

6 The interest rate paid on credit cards, bank

loans and overdrafts falls by an average of 2%

7 A South Korean company announces that it will

build a factory in the UK to supply both the UK
market and the market in the rest of Europe

8 UK households reduce their consumption of

imported goods as they pay back some of their
debts

9 There is an increase in interest rates when the

exchange rate is rising
Aggregate Supply

Short run aggregate supply is a relationship between quantity of real GDP supplied and the price
level when we hold constant the level of wages and the prices of other factors of production

A change in costs in the economy will cause a shift in the short run aggregate supply curve

How will the aggregate supply curve be affected by the following events?

In each case, assume (i.e. other factors held constant)

Economic Event Impact on the economy’s Evaluation Points

aggregate supply curve
(SRAS) What else might happen
as a result of this event
Choose one of the which might offset /
following reverse the change
mentioned?
Outward shift / inward shift

1 The government announces a 10% rise in the

value of the national minimum wage

2 There is a fall in the global price of oil from

$100 a barrel to $80 a barrel

3 There is a 5% decrease in average wage rates

4 The price of carbon credits in the EU emissions

trading scheme rises from Euro 12 to Euro 20
per tonne of carbon

6 The six major energy suppliers in the UK

announce a 15% rise in the retail price of gas
and electricity for UK businesses

7 A fall in the cost of semi conductor chips used

in the computer industry and other related
industries

8 The EU agrees a reduction in import tariffs for

imports coming from Brazil, India and China

9 The value of the pound against the Euro falls

by 15% over a period of 12 months

10 There is a significant rise in net inward

migration of skilled workers from Eastern
European countries