Aggregate Demand Curve

Aggregate Demand Curve                      
 AD is the demand by consumers, businesses for final goods and services.
AD = C + I + G + Xn

Why is AD downward sloping

Real Balance Effect

•  higher price levels reduce purchasing power of money
• decreases quantity of expenditures
• lower price levels increase purchasing power and expenditures

     Interest Rate Effect

• when price levels increases, lenders need to charge higher interest rates to get a real return loans
• higher interest rates discourage consumer spending and business investment

     Foreign Trade Effect

• when U.S. price levels rises, foreign buyers purchase fewer U.S. goods and Americans buy more foreign goods
• exports fall and imports rise causing real GDP demanding to fall ( Xn decrease)

Shifters of Aggregate Demand 
GDP = C + I + G + Xn

• There are 2 parts to a shift in AD: A change in C, Ig, G, and 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 : C , G ,Ig, Xn

Consumption: household spending is affected by :
- consumer wealth ( more wealth= more spending, AD shifts right) (less wealth= less spending, AD shifts left)

-consumer expectations ( positive expectations= more spending, AD shifts right) ( negative expectations= less spending, AD shifts left)

-household in debt ( less debt= more spending, AD shifts right) ( more debt= less spending, AD shifts left)

-taxes (less tax= more spending, AD shifts right) ( more tax = less spending, AD shifts left)

Gross Private Domestic Investment: investment spending is sensitive to:
-Real interest rate (lower RIR= more investment, AD shifts right) ( higher RIR= less investment, AD shifts left)

-Expected returns (higher expected returns= more investment, AD shifts right) ( lower expected returns= less investment, AD shifts left)

Expected returns influenced by:

1. -expectations of future profitability
2. -technology
3. -degree of excess capacity (existing stock of capital)
4. -business taxes

Government Spending
-more government spending (AD shifts right)
-less government spending (AD shifts left)

Net Exports: are sensitive to:
-exchange rates (international value of dollar) (strong $= more imports & fewer exports, AD shifts left) (weak $= fewer imports & more exports, AD shifts right)

-relative income (strong foreign economies= more exports, AD shifts right) ( weak foreign economies= less exports, AD shifts left)