Unit 3 - Feb 19 (Aggregate Demand)

Aggregate Demand - shows the amount of Real GDP that the private, public, and foreign sector collectively desire to purchase at each possible price level. The relationship between the price level and the level of Real GDP is inverse.

Aggregate Demand Curve

Increase in A.D.

Decrease in A.D.

3 Reasons A.D. is a downward sloping
   1. Real balance effect
. when the price level is high households and businesses cannot afford to purchase as much output.
. when the price level is low households and businesses can afford to purchase more output.
   2. 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.
   3. Foreign purchases effect
. a higher price level increases the demand for relatively cheaper imports.
. a lower price level increases the foreign demand for relatively cheaper us exports.

Shifts in Aggregate Demand (A.D.)
  . change in consumption (C), investment (Ig), government purchases (G), and net exports (Xn).
  . a multiplier effect that produces a greater change then the original change in 4 components
. Increases in A.D. = A.D. move right (--->).
. Decreases in A.D. = A.D. move left (<---).

Determinants of A.D.
1. Consumption spending
 . Consumer Wealth
     . more wealth : more spending (--->)
     . less wealth : less spending (<---)
 . Consumer Expectations
     . positive expectations : more spending (--->)
     . negative expectations : less spending (<---)
 . Household Indebtedness
     . less debt : more spending (--->)
     . more debt : less spending (<---)
 . Taxes
     . less taxes : more spending (--->)
     . more taxes : less spending (<---)
2. Investment spending
 .Real Interest Rate
     .lower real interest rate : more investment (--->)
     .higher real interest rate : less investment (<---)
 .Expected Returns
    .higher expected returns : more investment (--->)
    .lower expected returns : less investment (<---)
 .Expected returns are influenced by
     1. Expectations of future probability
     2. Technology
     3. Degree of excess capacity (existing stock of capital)
     4. Business taxes
3. Government spending
     .more government spending (--->)
     .less government spending (<---)
4. Net Exports
  .Exchange Rates (International value of money)
      .strong money : more imports and fewer exports (<---)
      .weak money : fewer imports and more exports (--->)
  .Relative Income
     .strong foreign economies : more exports (--->)
     .weak foreign economies : less exports (<---)