Demand shock

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In economics, a demand shock is a sudden event that increases or decreases demand for goods or services temporarily.

A positive demand shock increases aggregate demand (AD) and a negative demand shock decreases aggregate demand. Prices of goods and services are affected in both cases. When demand for goods or services increases, its price (or price levels) increases because of a shift in the demand curve to the right. When demand decreases, its price decreases because of a shift in the demand curve to the left. Demand shocks can originate from changes in things such as tax rates, money supply, and government spending. For example, taxpayers owe the government less money after a tax cut, thereby freeing up more money available for personal spending. When the taxpayers use the money to purchase goods and services, their prices go up. [1]

In the midst of a poor economic situation in the United Kingdom in November 2002, the Bank of England's deputy governor, Mervyn King, warned that the domestic economy was sufficiently imbalanced that it ran the risk of causing a "large negative demand shock" in the near future. At the London School of Economics, he elaborated by saying, "Beneath the surface of overall stability in the UK economy lies a remarkable imbalance between a buoyant consumer and housing sector, on the one hand, and weak external demand on the other." [2]

During the global financial crisis of 2008, a negative demand shock in the United States economy was caused by several factors that included falling house prices, the subprime mortgage crisis, and lost household wealth, which led to a drop in consumer spending. To counter this negative demand shock, the Federal Reserve System lowered interest rates. [3] Before the crisis occurred, the world's economy experienced a positive global supply shock. Immediately afterward, however, a positive global demand shock led to global overheating and rising inflationary pressures. [4]

See also

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In economics, a demand curve is a graph depicting the relationship between the price of a certain commodity and the quantity of that commodity that is demanded at that price. Demand curves may be used to model the price-quantity relationship for an individual consumer, or more commonly for all consumers in a particular market.

In economics, a shock is an unexpected or unpredictable event that affects an economy, either positively or negatively. Technically, it is an unpredictable change in exogenous factors — that is, factors unexplained by an economic model — which may influence endogenous economic variables.

Supply shock Sudden event that temporarily changes the supply of goods or services

A supply shock is an event that suddenly increases or decreases the supply of a commodity or service, or of commodities and services in general. This sudden change affects the equilibrium price of the good or service or the economy's general price level.

Inflationary gap

An inflationary gap, in economics, is the amount by which the actual gross domestic product exceeds potential full-employment GDP. It is one type of output gap, the other being a recessionary gap.

AD–AS model

The AD–AS or aggregate demand–aggregate supply model is a macroeconomic model that explains price level and output through the relationship of aggregate demand and aggregate supply.

Keynesian cross

The Keynesian cross diagram is a formulation of the central ideas in Keynes' General Theory. It first appeared as a central component of macroeconomic theory as it was taught by Paul Samuelson in his textbook, Economics: An Introductory Analysis. The Keynesian Cross plots aggregate income and planned total spending or aggregate expenditure.

Demand-led growth

Demand-led growth is the foundation of an economic theory claiming that an increase in aggregate demand will ultimately cause an increase in total output in the long run. This is based on a hypothetical sequence of events where an increase in demand will, in effect, stimulate an increase in supply. This stands in opposition to the common neo-classical theory that demand follows supply, and consequently, that supply determines growth in the long run.

This glossary of economics is a list of definitions of terms and concepts used in economics, its sub-disciplines, and related fields.

References

  1. "Demand Shock". Investopedia. Retrieved 2008-11-02.
  2. "UK could be in for demand shock". Television New Zealand. 2002-11-20. Archived from the original on 2011-05-20. Retrieved 2008-11-02.
  3. Palley, Thomas (2008-06-11). "Bernanke Fed getting it right". Asia Times. Archived from the original on 2008-11-22. Retrieved 2008-11-02.CS1 maint: unfit URL (link)
  4. Roubini, Nouriel (2008-06-14). "The spectre of global stagflation". Daily Times. Retrieved 2008-11-02.[ permanent dead link ]