Aggregate Demand Curve (02/16/17)

Aggregate Demand Curve

Is the demand by consumer business, governmental, and foreign countries.

Changes in price level cause a move along the curve not a shift of the curve.

AD

Shows the amount of Real GDP that the private, public and foreign sector collectives desire to purchase at each possible price level.
- the relationship between the price level and the level of Real GDP is inverse.

3 reasons of Downward slopping

1. Wealth Effect

• High prices reduce purchasing power of $
•  Lowering the price level increases the purchasing power and increases expenditure.

2. Interest-Rate Effect

• As price level increase, lender needs to charge higher interest rates to get a real return in their loans.
•  Higher interest rate discourages consumer spending and business investment.

3. Foreign trade effect

• When U. S. price level rises, foreign buyers purchase fewer U.S. goods and Americans buy more foreign goods.
• Exports fall and imports rise causing Real GDP demand to fall.(Xn decreases)

Ex.: If prices triples in the U.S., Canada will no longer buy U.S. goods causing quantity demanded of

 U.S. products to fall.

Shifts in Aggregate Demand

There are two types to a shift in AD:

• A change in C, Ig, G and/or Xn
• A multiplier effect that produces a greater change than the original change in the 4  components.

Increases in AD = AD =>

Decreases in AD = AD =>

Determinants of AD

•  Consumption (C)
• Gross Private Domestic Investment (Ig)
• Government Spending (G)
• Net Exports (Xn) = Exports - Imports (X-M)

1. Change in consumer spending

- Consumer Wealth (Boom on the Stock Market)

- Consumer Expectations ( People fear a recession)

- Households Indebtedness ( More consumers debt)

- Taxes ( Decreases in income taxes)

2. Change in Investment Spending

- Real Interest Rate (Price of borrowing $)

(If interest rate increases ... )

(If interest rate decreases ... )
- Future Business expectations (High expectations...)
- Productivityand Technology (New Robots...)
- Business taxes (Higher corporate taxes mean...)

3. Change in Government Spending

(War...) (Nationalized Health Care...)
(Decrease in defense spending)

4. Change in Net Exports (X-M)

- Exchange rates. Ex.: If the U.S. dollar depreciates relative to the euro.

National Income Compared to Abroad

(If a major importer has a recession)

( If the U.S. has a recession )

Ex.:  "If the U.S. gets a Cold, Canada gets Pneumonia"

AD = GDP = C + I + G + Xn

Government Spending

• More government spending (AD =>)
• Less government spending (AD <=)

Further understanding:

https://www.tutor2u.net/economics/reference/aggregate-demand-ad