Aggregate Demand This section gives you a platform for understanding issues such as inflation, economic growth and unemployment. Aggregate demand (AD) and aggregate supply (AS) analysis provides a way of illustrating macroeconomic relationships and the effects of government policy changes.
Aggregate Demand
The identity for calculating aggregate demand (AD) is as follows:
AD = C + I + G + (X-M)
Where
C: Consumers' expenditure on goods and services: This includes demand for consumer durables (e.g. washing machines, audio-visual equipment and motor vehicles & non-durable goods such as food and drinks which are “consumed” and must be re-purchased). Household spending accounts for over sixty five per cent of aggregate demand in the UK.
I: Capital Investment – This is investment spending by companies on capital goods such as new plant and equipment and buildings. Investment also includes spending on working capital such as stocks of finished goods and work in progress.
Capital investment spending in the UK typically accounts for between 15-20% of GDP in any given year. Of this investment, 75% comes from private sector businesses such as Tesco, British Airways and British Petroleum and the remainder is spent by the public (government) sector – for example investment by the government in building new schools or investment in improving the railway or road networks. So a mobile phone company such as O2 spending £100 million on extending its network capacity and the government allocating £15 million of funds to build a new hospital are both counted as part of capital investment. Investment has important long-term effects on the s supply-side of the economy as well as being an important although volatile component of aggregate demand.
G: Government Spending – This is government spending on state-provided goods and services including public and merit goods.