Aggregate Demand

12 Key excerpts on "Aggregate Demand"

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  eBook - PDF

  Principles of Macroeconomics 3e

  • David Shapiro, Daniel MacDonald, Steven A. Greenlaw(Authors)
  • 2022(Publication Date)
  • Openstax

    (Publisher)

  In this example, the vertical line in the exhibit shows that potential GDP occurs at a total output of 9,500. When an economy is operating at its potential GDP, machines and factories are running at capacity, and the unemployment rate is relatively low—at the natural rate of unemployment. For this reason, potential GDP is sometimes also called full-employment GDP. The Aggregate Demand Curve Aggregate Demand (AD) refers to the amount of total spending on domestic goods and services in an economy. (Strictly speaking, AD is what economists call total planned expenditure. We will further explain this distinction in the appendix The Expenditure-Output Model . For now, just think of Aggregate Demand as total spending.) It includes all four components of demand: consumption, investment, government spending, and net exports (exports minus imports). This demand is determined by a number of factors, but one of them is the price level—recall though, that the price level is an index number such as the GDP deflator that measures the average price of the things we buy. The Aggregate Demand (AD) curve shows the total spending on domestic goods and services at each price level. Figure 11.4 presents an Aggregate Demand (AD) curve. Just like the aggregate supply curve, the horizontal axis shows real GDP and the vertical axis shows the price level. The AD curve slopes down, which means that increases in the price level of outputs lead to a lower quantity of total spending. The reasons behind this shape are related to how changes in the price level affect the different components of Aggregate Demand. The following components comprise Aggregate Demand: consumption spending (C), investment spending (I), government spending (G), and spending on exports (X) minus imports (M): C + I + G + X – M. CLEAR IT UP 276 11 • The Aggregate Demand/Aggregate Supply Model Access for free at openstax.org

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  Applied Intermediate Macroeconomics

  • Kevin D. Hoover(Author)
  • 2011(Publication Date)
  • Cambridge University Press

    (Publisher)

  Part VI Aggregate Demand 13 An Introduction to Aggregate Demand The central question of macroeconomics is what determines the level and growth rate of GDP. In Part V we looked at the economy from the side of aggregate sup-ply. How did the producers decide how much to produce? And how did they decide how many workers and how much capital to employ in the process? Of course, pro-ducers can profit only if they are able to sell their output. So in this and the next three chapters, we look at the economy from the side of Aggregate Demand. How do people decide how much to spend? 13.1 A Simple Model of Aggregate Demand Our objective in this chapter is to understand the general principles gov-erning Aggregate Demand. The national income and product accounts (see Chapters 2 and 3) provide a good starting point. The accounts must always balance; the four national-income-accounting identities (equations (2.1)– (2.4)) must always hold ex post or in people’s plans. Macroeconomic equilib-rium occurs when they also hold ex ante : everyone’s plans are simultaneously fulfilled. Think back to Chapter 2. The product-expenditure identity (equation 2.1 ) is reproduced here as: Y ≡ C + I + G + NX . (13.1) We can think of Y in the equation as the level of Aggregate Demand. Our focus will be to explain the different elements on the right-hand side. In this chapter, we take the bird’s-eye view: How do spending plans of the dif-ferent households, firms, the government, and the foreign sector become coordinated? That is, how does the economy reach equilibrium – if in fact it does reach equilibrium? What determines the actual values of GDP and other aggregates in equilibrium? And how does the economy behave away from equilibrium? To keep sight of the big picture, this chapter focuses on how the different elements of Aggregate Demand interact to determine the 487 488 An Introduction to Aggregate Demand total. In later chapters, we examine each of the different elements in more detail.

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  Economics

  A Contemporary Introduction

  • William A. McEachern(Author)
  • 2016(Publication Date)
  • Cengage Learning EMEA

    (Publisher)

  All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Chapter 23 Aggregate Demand 531 entire year. For example, because the recession of 2001 lasted only eight months, GDP managed a small gain for the year of 1.0 percent and consumption grew 2.6 percent. It was the 6.1 percent drop in investment that caused the recession. That’s why economic forecasters pay special attention to business expectations and investment plans. Sources: Economic Report of the President, February 2015; Survey of Current Business 95, various months for 2015; and OECD Economic Outlook 97 (May 2015). For data and articles about economic aggregates, go to the Bureau of Economic Analysis site at http://bea.gov/. ©LuckyImages/Shutterstock.com 23-3b Government Purchases The third component of aggregate expenditure is government purchases of goods and services. Federal, state, and local governments buy thousands of goods and services, ranging from weapon systems to traffic lights to education. During the most recent decade, government purchases in the United States accounted for 20 percent of GDP, most of that by state and local governments. Decisions about government purchases are largely under the control of public officials, such as the decision to build an interstate highway, boost military spending, or hire more teachers. These spending decisions do not depend directly on income in the economy. We therefore assume that government purchases are independent of income.

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  Macroeconomics

  • William Boyes, Michael Melvin(Authors)
  • 2015(Publication Date)
  • Cengage Learning EMEA

    (Publisher)

  Aggregate expenditures are the sum of consumption, investment, government spending, and net exports. 2. Consumption depends on household income, wealth, expectations, demographics, and taxation. 3. Investment depends on the interest rate, technology, the cost of capital goods, and capacity utilization. 4. Government spending is determined independent of current income. 5. Net exports depend on foreign and domestic incomes, prices, government policies, and exchange rates. Chapter 8 Macroeconomic Equilibrium: Aggregate Demand and Supply 151 Copyright 2016 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. the demand curve to slope down. Instead, the aggregate quantity demanded, or total spend-ing, will change as the price level changes as a result of the wealth effect, the interest rate effect, and the international trade effect of a price-level change on aggregate expenditures. We will discuss each of these effects in turn. 8-3a-1 The Wealth Effect Individuals and businesses own money, stocks, bonds, and other financial assets. The purchasing power of these assets is the quantity of goods and services for which the assets can be exchanged. When the level of prices falls, the purchasing power of these assets increases, allowing households and businesses to purchase more. When prices go up, the purchasing power of financial assets falls, causing households and busi-nesses to spend less. This is the wealth effect (sometimes called the real-balance effect ) of a price change: a change in the real value of wealth that causes spending to change when the level of prices changes.

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  A Primer on Macroeconomics

  Policies and Perspectives

  • Thomas M. Beveridge(Author)
  • 2018(Publication Date)
  • Business Expert Press

    (Publisher)

  Figure 5.1 .

  We discussed real GDP (y) in Chapter 3 (Volume I), and the aggregate price level (P) in Chapter 4 (Volume I), but let us review. Real GDP is our measure of aggregate output, measured in constant dollars. The aggregate price level is our measure of the overall average price of goods and services, as measured by the Consumer Price Index or the GDP price deflator.

  Composition of Aggregate Demand: From Chapter 3 and the Expenditure Approach to calculating GDP, recall that the demand for goods and services is composed of expenditures by households (consumption, C), businesses (investment, I), government (government purchases, G), and foreigners (net exports, EX – IM). Aggregate Demand, then, is composed of these elements:

  AD = C + I + G + (EX – IM)

  What the AD curve isn’t . Although the AD curve looks very similar to the demand curves we have seen in previous chapters, it is different in significant ways—it’s not just a “big” demand curve.

  Note that, on the vertical axis, “price” is the aggregate price level (P). In the “demand for oranges” diagram, the price of one good (oranges) is on the price axis—here, the aggregate price level is the price of all

  goods and services in the macroeconomy. The distinction is important. In Chapter 2, when we considered the behavior of quantity demanded in a single market such as the market for oranges, we assumed that, if the price of oranges were to rise, then all other factors would be held constant—the

  ceteris paribus assumption. A change in the price of oranges would occur in isolation, without changes in income, wealth, prices of other goods, and so on.

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  Foundations of Macroeconomics

  Its Theory and Policy

  • Frederick S. Brooman(Author)
  • 2017(Publication Date)
  • Routledge

    (Publisher)

  CHAPTER 3Aggregate Demand, Output, and Equilibrium      

  1. Aggregate Demand and Supply

  In Chapter 1 , the equilibrium of the economy was roughly described in terms of Aggregate Demand and supply. It was said that when the amount of money everyone wishes to spend is equal to the value of the goods and services currently being made available for purchase, the economy is in equilibrium in the sense that the situation will not itself cause changes in the general level of prices, in the level of output, or in anything else. But the concept of equilibrium implies the possibility of disequilibrium: Aggregate Demand may be equal to aggregate supply, but it may also be larger or smaller at any particular time. In this, there is a marked contrast with the relationship between National Expenditure and National Product, since these are identical in amount at all times and under all circumstances; they can never be said to be in equilibrium, because they can never differ. Nonetheless, the concepts defined in the previous chapter can be used to throw light on the conditions of equilibrium between Aggregate Demand and supply.

  For the time being, the notion of aggregate supply will be likened to that of National Product. This does not mean that the two are to be regarded as identical; National Product is simply a numerical measure of the flow of output, whereas the concept of supply involves the idea of volition – it is the quantity that sellers wish to sell, rather than the amount that they merely happen to have available from current production. Firms will be content to produce a given level of output only if they believe that they could not improve their profits by either increasing or reducing it It will be shown in a later chapter 1

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  eBook - PDF

  Macroeconomics

  A Contemporary Introduction

  • William A. McEachern(Author)
  • 2016(Publication Date)
  • Cengage Learning EMEA

    (Publisher)

  Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Chapter 9 Aggregate Demand 199 entire year. For example, because the recession of 2001 lasted only eight months, GDP managed a small gain for the year of 1.0 percent and consumption grew 2.6 percent. It was the 6.1 percent drop in investment that caused the recession. That’s why economic forecasters pay special attention to business expectations and investment plans. Sources: Economic Report of the President, February 2015; Survey of Current Business 95, various months for 2015; and OECD Economic Outlook 97 (May 2015). For data and articles about economic aggregates, go to the Bureau of Economic Analysis site at http://bea.gov/. ©LuckyImages/Shutterstock.com 9-3b Government Purchases The third component of aggregate expenditure is government purchases of goods and services. Federal, state, and local governments buy thousands of goods and services, ranging from weapon systems to traffic lights to education. During the most recent decade, government purchases in the United States accounted for 20 percent of GDP, most of that by state and local governments. Decisions about government purchases are largely under the control of public officials, such as the decision to build an interstate highway, boost military spending, or hire more teachers. These spending decisions do not depend directly on income in the economy. We therefore assume that government purchases are independent of income. As noted earlier, government purchases represent only one of the two government outlays; the other is transfer payments, such as for Social Security, welfare benefits, and unemployment insurance.

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  The American Economy: A Student Study Guide

  A Student Study Guide

  • Wade L. Thomas, Robert B. Carson(Authors)
  • 2015(Publication Date)
  • Routledge

    (Publisher)

  Part 3

  Macroeconomics

  Passage contains an image Chapter 11

  Accounting for Economic Fluctuations: Aggregate Demand and Aggregate Supply Analysis

  KEY TERMS

  Business cycle	Real GDP
  Gross domestic product (GDP)	Aggregate supply
  Aggregate Demand	Real balances effect
  Personal consumption expenditures (C)	Foreign purchases effect
  Potential output (GDP)
  Gross private domestic investment (Ig)	Productivity
  Demand-pull inflation
  Government purchases (G)	Multiplier
  Net exports (X)	Cost-push inflation
  Nominal GDP	Stagflation

  CHAPTER SUMMARY

    1. The principal focus of macroeconomics is three general measures of economic activity: the level of national output, the levels of employment and unemployment, and the price level. While microeconomics directed attention to the workings of individual markets, macroeconomics examines the aggregate performance of the economy.

    2. The principal accounting measure of the aggregate output of the economy and the economy’s overall performance is the gross domestic product (GDP). GDP is the market value of the goods and services produced in a country over a particular period. Other accounts used in measuring macroeconomic performance include gross national product, net national product, national income, personal income, and disposable personal income. Critical to comparing these measures over time is adjusting the dollar values for changes in the price level. By adjusting nominal GDP to a single base period, a measure of real GDP can be obtained to allow consistent comparisons between time periods. Chain-type indexes provide an improved method for adjusting and comparing real GDP figures and growth rates over time.

    3.

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  Chinese Economists on Economic Reform - Collected Works of Lou Jiwei

  • Lou Jiwei, China Development Research Foundation(Authors)
  • 2013(Publication Date)
  • Taylor & Francis

    (Publisher)

  Equilibrium in aggregate supply and demand, and equilibrium in ‘the use of national income’ and the ‘production of national income,’ are two pairs of economic concepts that are used to analyze short-term economic phenomena. Using them as analytical tools can help us touch upon certain structural issues in our national economy and its prospects for long-term steady growth. They cannot be used to explain these issues in a fully comprehensive way. Nonetheless, equilibrium in our aggregate economy is the basis for any structural evolution and long-term steady growth. One could even say that correcting short-term imbalances in the overall economy is a prerequisite for steady economic growth. Therefore, it is absolutely necessary to have a deep understanding of the full meaning of these two pairs of concepts, as well as how they differ in terms of the policy considerations each one implies.

  Articles on economic topics in our country often equate the ‘Aggregate Demand and aggregate supply equilibrium’ with ‘equilibrium in use of our national income and the production of our national income.’ They refer to an ‘excess of Aggregate Demand over aggregate supply’ as though it were the same as the ‘excess distribution of the national income.’ In fact, these two pairs of concepts are linked but also have certain distinctions. The implications of their corresponding parts are not equivalent. Let’s look at a comparative analysis.

  1. The aggregate supply and the amount of ‘national income production’

  Simply put, ‘aggregate supply’ refers to those products and services that have an ‘actual practical-use value’ that can be produced by existing production capacities within one year. It can be roughly expressed in terms of the expected gross national product (GNP) as measured in constant prices, or by the expected national income. The thing that aggregate supply focuses on is the production capacity of such productive factors as assets, labor, land, imported materials, and foreign capital inflows. Within any given year, these are limited. Each is constrained by the quantity and quality of all other factors. For example, a quantitative maximum is imposed on imported materials and the amount of our foreign debt by the smallest extent of foreign exchange reserves and the highest amount of debt-servicing. ‘Aggregate supply’ refers to the maximum amount of ‘well-being’ that can be produced by the full capacity of production factors, after they are combined in optimal fashion. It is also referred to as the ‘production-possibility frontier’ or the ‘potential production level.’ We should say that referring to the maximum well-being of people is more accurate, since it excludes from the figures production of overstocked things that people don’t need, either for immediate or long-term consumption (as investment).

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  Economics

  Principles & Policy

  • William Baumol, Alan Blinder, John Solow, , William Baumol, Alan Blinder, John Solow(Authors)
  • 2019(Publication Date)
  • Cengage Learning EMEA

    (Publisher)

  534 Part 6 The Macroeconomy: Aggregate Supply and Demand measured on the horizontal axis (in this case, GDP) equals the value of the variable mea- sured on the vertical axis (in this case, total expenditure). 2 Thus, the 458 line in Figure 3 shows all the points at which output and spending are equal—that is, where 5 1 1 1 2 Y C I G X IM ( ). The 458 line, therefore, displays all the points at which the economy can possibly be in demand-side equilibrium, for firms will be content with current output levels only if total spending equals production. Now we must compare these potential equilibrium points with the actual combinations of spending and output that are consistent with the behavior of consumers and investors. That behavior is described by the 1 1 1 2 C I G X IM ( ) line in Figure 3, which shows how total expenditure varies as income changes. The economy will always be on the expenditure line because only points on the 1 1 1 2 C I G X IM ( ) line are consistent with the spending behav- iors of consumers and investors. Similarly, if the economy is in equilibrium, it must be on the 458 line. As Figure 3 shows, these two requirements imply that the only viable equilibrium comes at point E, where the 1 1 1 2 C I G X IM ( ) line intersects the 45 ° line. Only this point is consistent with both equilibrium and people’s consumption and investment decisions. Notice that to the left of the equilibrium point, E, the expenditure line lies above the 458 line. This means that total spending exceeds total output, as we have already noted. Hence, inventories will be falling, and firms will conclude that they should increase produc- tion—driving production toward the equilibrium point, E. The opposite is true to the right of point E. Here spending falls short of output, inventories rise, and firms will cut back on production—thereby moving closer to E. In other words, whenever production is above the equilibrium level, market forces will drive output down.

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  Macroeconomics

  Principles & Policy

  • William Baumol, Alan Blinder, John Solow, , William Baumol, Alan Blinder, John Solow(Authors)
  • 2019(Publication Date)
  • Cengage Learning EMEA

    (Publisher)

  11 In this context, disposable income is national income plus transfer payments minus taxes. 1. Explain the difference between final goods and interme- diate goods. Why is it sometimes difficult to apply this distinction in practice? In this regard, why is the concept of value added useful? 2. Explain the difference between government spending and government purchases of goods and services (G). Which is larger? 3. Explain why national income and gross domestic product would be essentially equal if there were no depreciation. Discussion Questions Copyright 2020 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 169 L et’s briefly review where we have just been. In Chapter 5, we learned that the interac- tion of Aggregate Demand and aggregate supply determines whether the economy will stagnate or prosper, whether our labor and capital resources will be fully employed or substantially unemployed. In Chapter 8, we learned that Aggregate Demand has four components: consumer expenditure (C), investment (I), government purchases (G), and net exports (X – IM). It is now time to start building a theory that puts the pieces together so we can see where the Aggregate Demand and aggregate supply curves come from. Because it is best to walk before you try to run, our approach is sequential. We begin in this chapter by assuming that taxes, the price level, the rate of interest, and the international value of the dollar are all constant. None of these assumptions is true, of course, and we will dispense with all of them in subsequent chapters.

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  Macroeconomics

  Principles and Policy

  • William Baumol, Alan Blinder(Authors)
  • 2015(Publication Date)
  • Cengage Learning EMEA

    (Publisher)

  Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 178 Part 2 The Macroeconomy: Aggregate Supply and Demand 9 -5 9 5 THE COORDINATION OF SAVING AND INVESTMENT THE COORDINATION OF SAVING AND INVESTMENT To do so, it is use f ul to pose the f ollowin g question: Must the f u ll -emp l o y ment l eve l o f G D P be a demand-side equilibrium? Decades ago, economists thought the answer was “ y es.” Since Ke y nes, most economists b e l ieve t h e answer is “not necessari ly . ” To help us see wh y , Fi g ure 9 offers a simplified circular flow dia g ram that i g nores exports, imports, and the g overnment. In this version, income can “leak out” of the circu-lar flow onl y at point 1, where consumers save some of their income. Similarl y , lost spend-in g can be replaced onl y at point 2, where investment enters the circular f low . What happens i f f irms produce exactl y the f ull-emplo y ment level o f GDP at point 3 in the diagram? Will this income level be maintained as we move around the circle, or will it shrink or g row? The answer is that full-emplo y ment income will be maintained on ly if the spendin g b y investors at point 2 exactl y balances the savin g done b y consumers at p oint 1. In ot h er wor d s: The econom y will be in demand-side equilibrium at f ull emplo y ment onl y i f the amount that consumers wish to save out o f their f ull-employment incomes happens to equal the amount t hat investors want to invest. I f these two magnitudes are unequal, f ull emplo y ment will not be an e q ui l i b rium.

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