2.2.1 The characteristics of AD Quiz: Pearson Edexcel Economics A, Unit 2

The 20 questions

1. Aggregate demand (AD) is the sum of which components?

   • consumption, investment, the money supply and the exchange rate, which together determine the total level of spending in the economy
   • investment, wages, government transfers and exports, which add up to the total demand for goods and services in the economy
   • consumption, savings, taxation and imports, which together determine how much income households receive from firms each year
   • consumption, investment, government expenditure and net trade (exports minus imports)

2. Which component of AD is usually the largest in the UK economy?

   • net trade
   • investment
   • government expenditure
   • consumption

3. The aggregate demand curve slopes downwards because:

   • a lower price level reduces the real value of all savings and wealth, so households cut back on spending and reduce output demanded
   • a lower price level raises real money balances, interest rate effects and international competitiveness, increasing real output demanded
   • higher prices raise the quantity of output demanded through greater wealth, since households feel richer and spend more on goods
   • a fall in the price level always reduces real national income, so firms cut their output and this lowers the quantity of real output

4. A movement along the AD curve occurs when:

   • the exchange rate depreciates against the dollar
   • consumer confidence rises while the price level stays the same
   • the general price level changes, with all other determinants of AD constant
   • the government increases its spending on defence

5. A shift of the AD curve to the right would be caused by:

   • a rise in business confidence that increases planned investment
   • an increase in the average price of imports within the economy
   • a rise in the general price level, with real output unchanged
   • a movement from the top to the bottom of the AD curve

6. Which change would cause a leftward shift of the AD curve?

   • a depreciation of the currency that boosts exports
   • an increase in government spending on infrastructure projects
   • an increase in the rate of income tax that reduces disposable income
   • a fall in the price level that increases real balances

7. If C = 500, I = 200, G = 300, X = 250 and M = 220, what is aggregate demand?

   • 1,030
   • 1,250
   • 780
   • 950

8. In a closed economy with C = 400, I = 150 and G = 200, what is aggregate demand?

   • 750
   • 550
   • 350
   • 950

9. An economy's net trade balance moves from a surplus of 40 to a deficit of 25. If all other components are unchanged, the change in AD is:

   • a fall of 65
   • a fall of 15
   • a rise of 65
   • a rise of 15

10. A movement from the upper part of an AD curve to the lower part, with the nominal money supply constant, is best described as:

    • an increase in the quantity of real output demanded as the price level falls
    • a change in government expenditure, which moves the whole AD curve because government spending is the sole determinant of demand
    • a rise in the marginal propensity to consume, which changes the slope of the AD curve and raises output at every price level
    • a shift of the AD curve to the left as spending falls, because the same prices now buy less output across the economy

11. Why is the distinction between a movement along the AD curve and a shift of it important for policy?

    • Movements along AD are caused only by exchange rate changes, which policy cannot influence, so the distinction has little use
    • A shift of AD only happens when the price level falls, so policy should target prices directly and never worry about confidence
    • A movement and a shift are identical in their effects, so policy can ignore the distinction and treat any output change as a shift
    • A movement reflects the price level; a shift reflects a change in a determinant such as confidence, so policy must target the right cause

12. Which best explains why consumer spending is a significant part of AD?

    • Households spend all of their income in every period, so consumption has no effect on savings and plays no role in demand
    • Households account for the largest share of spending, so changes in consumer confidence can have a large effect on total demand
    • Government spending is always larger than household consumption, so consumer confidence has little effect on total demand
    • Consumer spending is fixed by law and cannot change in response to incomes, confidence or interest rates, so it never moves

13. An economy's AD curve shifts left after a fall in world demand for exports. Which component of AD is most directly affected?

    • consumption, because households lose all their savings
    • net trade (X-M), as export revenue falls
    • investment, because interest rates rise automatically
    • government expenditure, because the government cuts spending automatically

14. Suppose real GDP is 1,200 and AD = C + I + G + (X - M) is 1,250 at the current price level. Which is most likely?

    • The economy is in a closed trade position with no net exports, so the gap between demand and output must come from imports
    • The price level must fall at once to restore equilibrium, because prices always move faster than quantities when demand is high
    • Inventories build up because demand is weak, so firms cut output and lower prices to clear unsold stock on their shelves
    • Aggregate demand exceeds output, so inventories fall and firms are likely to raise output or prices

15. A rise in the exchange rate, all else equal, is most likely to:

    • increase consumption because imports become more expensive
    • leave AD unchanged because exports and imports both rise by the same amount
    • increase net exports, shifting the AD curve to the right
    • reduce net exports, shifting the AD curve to the left

16. Which statement about the relative importance of AD components in the UK is most accurate?

    • Investment has been larger than consumption in every year of recent UK history, as firms spend more than households on goods
    • Investment is typically the most volatile component, while consumption is the largest and most stable
    • Government spending is the smallest component in every year since 1990, because public spending has been kept low by fiscal rules
    • Net trade is always the largest component because exports exceed imports every year, so the trade balance dominates total spending

17. A government raises its spending by 20 billion while the price level is unchanged. Which best describes the effect on AD?

    • AD moves down along the same curve as prices fall by 20 billion
    • AD shifts to the left because higher spending reduces private investment immediately
    • AD is unchanged because government spending is not part of aggregate demand
    • AD shifts to the right by 20 billion at the initial price level, if no other component changes

18. Which statement best evaluates the effect of a fall in the interest rate on AD?

    • It may raise consumption and investment, but the size of the effect depends on how responsive borrowing and spending are
    • It has no effect on AD since interest rates only affect savings decisions, not borrowing, investment or spending by firms and households
    • It always reduces AD because lower rates reduce household incomes from savings
    • It increases AD by exactly the same amount in every economy regardless of conditions

19. Real national income is 1,000 at a price level of 100 and the AD curve shifts to the right. Which is the most likely short-run result?

    • a fall in both real output and the price level as firms cut production
    • a fall in real output and a fall in the price level
    • a rise in real output and a rise in the price level
    • a rise in real output with no change in the price level under any conditions

20. Which change would cause a movement along the AD curve rather than a shift of it?

    • an increase in consumer confidence about future income
    • a fall in exports caused by weaker growth in world demand
    • a rise in government expenditure on new schools
    • a fall in the average price level across the economy from 110 to 105

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