2.2.1 Characteristics of AD

• Aggregate demand


  The total demand in the economy. It measures spending on goods and services by consumers, firms, the government and overseas consumers and firms.
• Components of aggregate demand

  • Consumer spending
  • Capital investment
  • Government spending
  • Exports minus imports
• Consumer spending


  • The largest component of aggregate demand and most significant to economic growth
• Capital investment


  • Accounts for around 15-20% of GDP in the UK per annum, with about ¾ from private sector firms and ¼ from the government. The smallest component of aggregate demand.
• Government spending


  • Accounts for 18-20% of GDP. Transfer payments are not included as no output is derived from them. The third largest component of aggregate demand.
• Exports minus imports


  • The value of the current account on the balance of payments. A positive value indicates a surplus, a negative value indicates a deficit. The second largest component of aggregate demand.
• Rise in aggregate demand


  Shown by a shift to the left in the demand curve (AD1 to AD2)
• Factors that cause a rise in aggregate demand

  • Higher consumer and firm confidence levels
  • Lower interest rates
  • Lower taxes
  • Increase in government spending
  • Currency depreciation
  • Wealth effect from rising house prices
  • More available credit
• Higher prices


  Lead to a fall in the value of real incomes, so goods and services become less affordable in real terms
• High inflation in the UK

  Foreign goods would seem relatively cheaper, leading to more imports and a deficit on the current account, causing aggregate demand to fall
• High inflation


  Generally means higher interest rates, which discourages spending as saving becomes more attractive and borrowing becomes expensive