Aggregate Demand (AD) 

• shows the amount of the real GDP that the private, public & foreign.l sector collectively desire to purchase at each possible price level. 

• relationship between price level & level of real GDP is inverse.
• Three reason AD is download sloping
•  Real balance effect
• When the price level is high households and business can not afford to purchase as much output 
• When the price level is low households and business can afford to purchase more output.

Interest Rate Effect: 

• A higher price level increases the interest rate which tends to discourage investment. 

• A lower price level decreases the interest rate which tends to encourage investment. 

Foreign Purchases Effect: 

-Higher price level increases the demand for relatively cheaper imports.

-Lower price level increases the foreign demand doe relatively cheaper U.S. Exports. 

Shifts in Aggregate Demand

There are two parts to a shift in AD

 A change in C,Ig,G & Xn

 A multiple effect that produces a greater change than the original change in the 4 component.

 increases in AD= AD--->

decreases in AD= AD <----

Consumption

 household is spending is affected by

1.  consumer wealth
2.  more wealth=more spending 
3.  Less wealth=less spending 

consumer expectations

• Positive expectation=more spending

• Negative expectation=less spending

Household indebtedness:

Less debt=more spending 

More debt=less spending 

Taxes: 

Less taxes= more spending

More taxes= less spending 

 

Gross Private investment  

-Investment spending is sensitives

The Real Interest rate

Lower real interest rate(more investment)

Higher real interest rate( less investment)

• Expected returns

Higher expected returns(more investment) (AD->)

Lower expected returns(less investments) (AD<-)

Expected returns are influenced by

• Expectations 
• Technology 
• Degrees of excess capacity  
• Business taxes 

Government Spending

More gov spending (AD->) 

Less gov spending (AD<-)

Net exports 

Exchange rates(international value of $)

Strong $=more imports and fewer exports (AD<-)

Weak $= fewer imports & more exports (AD->)

Relative income 

Strong Foreign Economies= more exports (AD->)

Weak foreign Economies=less exports (AD<-)