Revisit – 10 minutes research

1. Define what macro economics is

2. Explain what the two schools of thought are with
macroeconomic:
a. Keynesian
b. Monetarist
3. What are the 4 main objectives of an economy?
4. Explain why each objective is Important to try and maintain
5. Define Aggregate demand
6. Define Aggregate supply
7. What are the 5 different components of AD along with an
example for each
Aggregate Demand (Ad)
Objectives
By the end of this session you should be able to:
• Draw a diagram showing macroeconomic
equilibrium
• Write down the definition of Aggregate
Demand
• Understand what each component of
Aggregate Demand means
 Every government…
Every government no matter how powerful has a
set of objectives it needs to adhere to. These are
known as Key performance indicators (KPI’s)

1. Economic growth – sustainable economic growth

2. Inflation – low levels of inflation
3. Unemployment – Low unemployment/full
employment
4. Trade balance – acceptable trade balance (BOP)
Other objectives
National debt – sustainable level of gov debt

Income distribution – an equitable distribution

of debt
 Microeconomics &
Macroeconomics
What’s the difference?

• Microeconomics looks at individual markets

and how they operate (or don’t!!)

• Macroeconomics explores national and

international economic issues
• Aggregate means ‘total’ and in this case we
use the term to measure how much is being
spent by all consumers, businesses, the
government and people and firms overseas

• The formula for calculating aggregate demand

is as follows:
• AD = C + I + G + (X-M)
Recap of macroeconomic indicators
Groups of 3
Prepare 3 ‘fascinating facts’ about each of the
following….
1. Unemployment
2. Inflation
3. Balance of Payments
4. Economic Growth
 Macro Economics
Two key macroeconomic questions:

1. What things influence the level of overall economic

activity in the economy (output)?

Why is this important?

• Because the level of output determines living standards and
levels of unemployment

• Economic Output is measured by Gross Domestic Product

i.e. The total value of all the goods and services produced in the
economy
 Macro Economics
Two key macroeconomic questions:

2. What things influence the level of overall prices in

the economy?

Why is this important?

• Because a sustained rise in prices potentially
reduces real living standards (‘Inflation’)

• ‘Inflation’ is measured by a % change in prices over

a given time period
Aggregate Demand
What is it?
• The total demand for a country's goods and
services at a given price level during a given
time period
Imagine a UAE built laptop computer:

What kinds of economic agents might buy this

laptop once it has been made by a firm?
 Households
Individuals buy goods
and services. This is
known as household
consumption and is
indicated by (C).

They can choose to

consume or to save (S)
their money (a
withdrawal from the
system).
Firms
Firms can choose to
invest in new capital
machinery and training
for their employees.
This is called investment
(I) and represents an
injection into the
macroeconomy.
They can also withdraw money from the
macroeconomy by choosing to save (S)
Investment
When investing, firms have a number of options.
They can:
• Replace existing capital stock as it wears out.
This will maintain the productive capacity of the
macroeconomy.
• Purchase new capital stock (often using loans or
direct foreign investment), which will increase
the productive capacity of the economy.
• Invest in human capital, either recruiting more
workers (labour) or training/educating them so
that they are more productive.
Governments
Governments can inject
money into an economy
by spending money on
merit and public goods
and local services. This
is government
expenditure (G).
They can also withdraw money from the system by
choosing to tax (T) households and firms.
Overseas Buyers
Foreign people and
firms might buy an
economy’s exports (X),
injecting money into the
economy.

However, individuals and firms in an economy can

also spend money on imports (M) from elsewhere.
This money is withdrawn from the macroeconomy.
So…
Aggregate demand =
Consumption + Investment +
Government expenditure + (eXports –
iMports)

AD = C + I + G + (X – M)
Worksheet
Circular flow of income – make a list of
injection and leakages on an economy

The model shows there are three different ways to measure total
economic activity in an economy – NE, NI, NO
In order to understand AD we also
know…
The multiplier effect. This is the affect that
changes in Gov spending will have on the
economy.

e.g. UAE government investing 10 billion and

making 25 billion back as a result
 Injections v Leakages
Formula for working out the Keynesian multiplier

1/MPW = multiplier

MPC— marginal propensity to consume

MPS—marginal propensity to save
MPT—marginal propensity to tax
MPM—marginal propensity to import
This is something we will be looking at in-
depth in fiscal

A working example of the multiplier is:

Imagine the government invests 100 million AED
into an economy and it returns 200 million AED

1/MPW
MPC =0.5 MPM=0.1
MPS =0.25 MPT =0.15
Examples questions for you (5 minutes)

What is the return on the government injecting

500,000 DHS, 1.5 millions DHS and 1 billion DHS

1. MPC – 0.99
2. MPW = 0.25
3. MPW = 0.40
4. MPC = 0.83
Task – 5 minutes
1. On the next slide there is a grid with numbers.
I want you to work out for each grid what the
percentage change was for 2007 in comparison
to 2014
2. What is the biggest contribution to AD?
3. Why is the government so worried about
ensuring consumer confidence is good?
 Aggregate Demand
So….

• AD = C + I + G + (X - M)

Remember it by……

Can I Get eXtra Marks?

 Factors Influencing Aggregate Demand
Consumption - spending by private households on Investment - spending by private companies on capital
consumer goods produced in the UK goods produced in the UK

Government - spending by ‘the state’ on capital & Net Exports - value of UK exports of consumer and
consumer goods produced in the UK (AKA ‘public capital goods minus the value of imports of consumer
spending’) and capital goods from abroad
The foreign exchange rate Consumer confidence Business confidence

Distribution of income
Corporation tax levels
Average propensity to save
Technology advances
Inflation Government policies dealing
with social problems
Price of capital equipment
Wealth
Disposable incomes in the UK
The ‘size of the state’
Government policies dealing
with economic problems
Government policies in
Rate of interest international trade
Disposable incomes abroad

Average propensity to consume Average propensity to save

Government policies dealing

with security Age structure of population
Aggregate Supply
Find the definitions of the following words

• Average propensity to consume

• Marginal propensity to save

• Marginal propensity to consume

• Marginal propensity to import

• Marginal propensity to tax

Aggregate supply

Definition: Aggregate supply (AS) is

defined as the total amount of goods and
services (real output) produced and supplied
by an economy’s firms over a period of time.
Two different types
Long run Aggregate supply (LRAS) and short run aggregate supply
(SRAS/SAS).

Short-run aggregate supply curve (SRAS) a curve showing how

much output firms would be prepared to supply in the short run at
any given overall price level.
the Long Run Aggregate Supply curve (LRAS) is determined by all
factors of production – size of workforce, size of capital stock, levels
of education and labour productivity
Factors affecting AS:
1. Change in the cost of production
2. Changes in wage rates
3. Government intervention
4. Exchange rate
What would happen to AS if (make
sure you include the AD line)
1. There was a disruption in the middle east affecting
the supply of oil.
2. Increase in unit labour costs.
3. An increase in taxes to meet environmental
objectives (known as green taxes).
4. Lower duty on petrol and diesel would lower costs
5. A reduction in an import tariff on imports or an
increase in the size of an import quota
 Long run aggregate supply (LRAS)
• There are two different schools of thoughts – monetarist and Keynesian. – in pairs
research these and the different models they offer and try to explain them

LRAS LRAS

A shift left in the As curve is

a decrease in AS.
The vertical part of the line
refers to the possible
possibility curve
Thinking about the same question you did at
the start .
• What would be the impact of an appreciation
of the UK exchange rate have on AD and AS.

• This is OUT OF THE BOX thinking.

• Use a graph.
Factors affecting SRAS – fill in the following
boxes
Type/example Increase Decrease

A change in wage rates

A change in the costs of raw

material

A change in the price of

imports

A change in government
government indirect tax or
subsidies
Factors affecting LRAS
FOP Increase in quantity Increase in quality
Labour Increase in retirement Education and training
age, increase in birth rate could cause labour
productivity to rise

Capital Net investment – Advances in technology

purchase of extra capital
goods
Land Discovery of new oil fields Productivity of land can
be improved e.g. through
fertilisers on farmland

Enterprise Removal of red tape, Management training and

privatisation, introduction improved education
of incentives by the
government
The Classical View of Aggregate Supply
The first view of aggregate supply we will
examine is the classical view.
• This perspective distinguishes between
the short-run aggregate supply of an
economy and the long-run aggregate
supply.
• Proponents of the classical view argue
the economy will always self correct to
the long-run equilibrium.
Macroeconomic Short Run vs. Long Run
• Short run: the factors of production
are fixed in supply and the prices of
the factors of production are fixed.
This may happen because workers sign
annual contracts, or interest rates
remain stable for at least three
months etc…
• Long run: the factors are variable and
their costs are variable.
SR v LR
 SR v LR
Supply will change if there is
a change in quantity or
quality of FOP’s
Learning tip
• A shift left in the As curve is a decrease in AS.

• The vertical part of the line refers to the

possible possibility curve.

• Unless you are told otherwise it is best to use

the Keynesian diagram long-run aggregate
supply curve for policy analysis in the exam.