Bpp learning Media is an acca approved Content Provider

PART A: THE BUSINESS ORGANISATION, ITS STAKEHOLDERS AND THE EXTERNAL ENVIRONMENT 
 
60
 
The important point to note is that changes in behaviour of one of the components of the circular flow 
(for example, investment) can lead to significant changes in economic performance as a whole. 
 
2
Factors which affect the economy 
The economy is rarely in a stable state because of the various changing factors which influence it. These 
include investment levels, the multiplier effect, inflation, savings, confidence, interest rates and 
exchange rates.
The economy is explained by the various factors that influence it, such as investment levels, the 
multiplier effect, inflation, savings, confidence, interest rates and exchange rates. These factors are 
subject to change which means that the economy is rarely in a stable state. Economists use the 
business cycle (explained later in the chapter) to describe the fluctuating level of activity in the economy. 
2.1 The multiplier in the national economy 
The 
multiplier
involves the 
process of circulation of income
in the national economy, whereby an 
injection of a certain size leads to a much larger increase in national income. 
An initial increase in 
expenditure will have a snowball effect
, leading to further and further expenditures in the economy. 
Since total expenditure in the economy is one way of measuring national income, it follows that an initial 
increase in expenditure will cause an even larger increase in national income. The increase in national 
income will be a multiple of the initial increase in spending, with the size of the multiple depending on 
such factors as what proportion of any new investment is spent or what proportion is saved. 
If you find this hard to visualise, think of an increase in government spending on the construction of 
roads. The government would spend money paying firms of road contractors, who in turn will purchase 
raw materials from suppliers, and subcontract other work. All these firms employ workers who will 
receive wages that they can spend on goods and services of other firms. The new roads in turn might 
stimulate new economic activity, for example amongst road hauliers, house builders and estate agents. 
Depending on the size of the multiplier, an increase in investment would therefore have repercussions 
throughout the economy, increasing the size of the national income by a multiple of the size of the 
original increase in investment. 
2.2 Aggregate supply and demand 
Two of the main problems in the economy are inflation and unemployment. In order to understand how 
these problems arise, it is first necessary to understand aggregate demand, aggregate supply and how 
these combine to determine the level of national income and prices in the economy. 
2.2.1 Aggregate demand 
The total demand in the economy for goods and services is called the aggregate demand and it is made 
up of several components of the circular flow. These components include consumption, investment, 
government spending and exports minus imports. Put simply, the aggregate demand curve represents 
the sum of all the demand curves for individuals and businesses in a country. 
BPP Tutor Toolkit Copy

---

CHAPTER 3
//
THE MACROECONOMIC ENVIRONMENT