Aggregate Demand Curve

10 Key excerpts on "Aggregate Demand Curve"

• 

  eBook - ePub

  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.

  Sign up to read

  Learn more about book
• 

  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

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Principles of Economics 3e

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

    (Publisher)

  The downward-sloping aggregate demand (AD) curve shows the relationship between the price level for outputs and the quantity of total spending in the economy. It slopes down because of: (a) the wealth effect, which means that a higher price level leads to lower real wealth, which reduces the level of consumption; (b) the interest rate effect, which holds that a higher price level will mean a greater demand for money, which will tend to drive up interest rates and reduce investment spending; and (c) the foreign price effect, which holds that a rise in the price level will make domestic goods relatively more expensive, discouraging exports and 24 • Key Terms 601 encouraging imports. 24.3 Shifts in Aggregate Supply The aggregate demand/aggregate supply (AD/AS) diagram shows how AD and AS interact. The intersection of the AD and AS curves shows the equilibrium output and price level in the economy. Movements of either AS or AD will result in a different equilibrium output and price level. The aggregate supply curve will shift out to the right as productivity increases. It will shift back to the left as the price of key inputs rises, and will shift out to the right if the price of key inputs falls. If the AS curve shifts back to the left, the combination of lower output, higher unemployment, and higher inflation, called stagflation, occurs. If AS shifts out to the right, a combination of lower inflation, higher output, and lower unemployment is possible. 24.4 Shifts in Aggregate Demand The AD curve will shift out as the components of aggregate demand—C, I, G, and X–M—rise. It will shift back to the left as these components fall. These factors can change because of different personal choices, like those resulting from consumer or business confidence, or from policy choices like changes in government spending and taxes. If the AD curve shifts to the right, then the equilibrium quantity of output and the price level will rise.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Economics

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

    (Publisher)

  The degree to which an expansion produces output growth or increased inflation depends on the shapes of the AD and AS curves. We need to consider why the curves have the shapes they do, and what causes them to shift. The comparison we made earlier, between aggregate demand, aggregate supply, and their microeconomic counterparts, the supply and demand curves, is only superficial. As we examine the aggregate demand and supply curves, you will see that the reasons underlying the shapes and movements of AD and AS are in fact quite different from those explaining the shapes and movements of the supply and demand curves. 8-2 Factors that Influence Aggregate Demand Aggregate demand is the relation between aggregate expenditures, or total spending, and the price level. Aggregate expenditures are the sum of the expenditures of each sector of the economy: households (consumption), business firms (investment), government, and the rest of the world (net exports). Each sector of the economy has different reasons for spending; for instance, household spending depends heavily on household income, whereas business spending depends on the profits that businesses expect to earn. Because each sector of the economy has a different reason for the amount of spending it undertakes, aggregate spend-ing depends on all of these reasons. To understand aggregate demand, therefore, requires that we look at the factors that influence the expenditures of each sector of the economy. 8-2a Consumption How much households spend depends on their income, their wealth, expectations about future prices and incomes, demographics like the age distribution of the population, and taxes. • Income: If current income rises, households purchase more goods and services. • Wealth: Wealth is different from income. It is the value of the assets owned by a house-hold, including homes, cars, bank deposits, stocks, and bonds. An increase in household wealth will increase consumption.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Macroeconomics for Business

  The Manager's Way of Understanding the Global Economy

  • Lawrence S. Davidson, Andreas Hauskrecht, Jürgen von Hagen(Authors)
  • 2020(Publication Date)
  • Cambridge University Press

    (Publisher)

  The negative slope of the AD curve indicates that, as the price level rises, aggregate demand falls, while, as the price level falls, aggregate demand rises. Let’s make sure we understand this graph properly. There are many more graphs to follow in this book and it is important to interpret them properly. The AD curve shows the relationship between the price level and aggregate demand assuming that all other causal factors that could change aggregate demand are fixed. If the price level is actually P 0 , AD will be AD 0 . Movements of the price level up and down lead to movements along the AD curve as indicated by the arrows, inducing lower or higher aggregate demand. But, what if the other causal factors are not fixed? Consider an increase in government spending on goods and services. It implies that the same price level as before is now associated with a higher level of aggregate demand. Graphically, this means that the AD curve shifts to the right as shown by the blue arrow pointing rightward in Figure 2.9. The new AD curve is represented by the dotted line and the new level of aggregate demand is AD 1 . Conversely, if the government reduces government spending, the AD curve shifts to the left as indicated by the blue arrow pointing leftward. For a given price level, aggregate demand falls. The same arguments apply for the other causal factors affecting aggregate demand listed above. Other factors that shift the AD curve include, real interest rates, government spending, taxes, consumer and business confidence, and more. We use diagrams like this to illustrate and analyze macroeconomic developments and policies. Of course, such an explanation is only qualitative. It shows tendencies, not exact results. But it is useful. Always be sure to know which variables are on the P AD P 0 AD 0 AD 1 Figure 2.9 Shifts in the AD curve 76 Aggregate Demand

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Macroeconomics

  A Contemporary Introduction

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

    (Publisher)

  Aggregate Demand 9 • When driving through a neighborhood new to you, how can you guess the income of the residents? • What’s one of the most predictable and useful relationships in macroeconomics? • Why are consumer confidence and business confidence in the economy so important? • How is spending linked to income? • Why did Americans spend less and save more after the financial crisis of 2008? Answers to these and other questions are addressed in this chapter, which focuses on the makeup of aggregate spending, especially consumption, to develop the Aggregate Demand Curve. ©romakoma/Shutterstock.com Copyright 2017 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. 188 Y our economic success depends in part on the overall performance of the econo- my. When the economy grows, job opportunities expand, so your chances of find- ing a good job increase. When the economy contracts, job opportunities shrink, and so do your job prospects. Thus, you have a personal stake in the economy’s success. Consumption is the most important component of aggregate expenditure, accounting for about 68 percent of the total. We discuss how consumption and the other spending components relate to income in the economy. We then see how a change in the economy’s price level affects aggregate spending. All this is aimed at getting to the economy’s aggre- gate demand curve. In the next chapter, we develop the aggregate supply curve and see how the two curves interact to determine the economy’s equilibrium levels of price and output.

  Sign up to read

  Learn more about book
• 

  eBook - ePub

  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

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Macroeconomics

  Principles and Policy

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

    (Publisher)

  The expenditure schedule g raphed in F igure 3 is n o t the Aggregate Demand Curve, f or we have yet to bring the price level into o ur discussion. It is now time to remed y this omission and derive the a gg re g ate d eman d cur v e . To do so, we need onl y recall somethin g we learned in the last chapter. As we noted, h ouseholds own a g reat deal of mone y -f ixe d asset s w h ose rea l va l ue d ec l ines w h en t h e p rice level rises. The mone y in y our bank account is a prime example. If prices rise, that mone y w ill bu y less. Because of that fact, consumers’ r eal wealth declines whenever the price level rises—and that decreases their spendin g . Speci f icall y : Higher prices decrease the demand f or goods and services because they erode the purchasing power of consumer wealth. Conversely, lower prices increase the demand for goods and services b y enhancing the purchasing power of consumer wealth. For these reasons, a chan g e in the price level will shift the entire consumption func-tion. To represent this shi f t g raphicall y , Fi g ure 4 (which looks j ust like Fi g ure 6 f rom the p revious cha p ter) shows that : A higher price level leads to lower real wealth and there f ore to less spending a t an y g i ven level of re a l inc o me . Thus, a higher price level leads to a lower consumption f unction (such as C 1 in Fi g ure 4), and a lower price level leads to a hi g her consumption function (such as C 2 in Figure 4 ). 2 If you need review, see the appendix to Chapter 1. An income- expenditure diagram (or 45º line diagram ), plots total real expendi-ture (on the vertical axis) against real income (on the horizontal axis). The 45° line marks off points where income and expenditure are equal. The Aggregate Demand Curve shows the quantity of domestic product that is demanded at each possible value of the price level. Copyright 2016 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Macroeconomics

  Principles & Policy

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

    (Publisher)

  This relationship between the price level and real GDP (depicted in Figure 6) is precisely what we called the Aggregate Demand Curve in earlier chapters. It comes directly from the 458 line diagrams in Figure 5. Thus, points E 0 , E 1 , and E 2 in Figure 6 correspond precisely to the points bearing the same labels in Figure 5. Figure 4 How the Price Level Shifts the Consumption Function C 1 C 0 C 2 A Real Disposable Income Real Consumer Spending Effect of changes in real income Higher price level Lower price level Figure 5 The Effect of the Price Level on Equilibrium Aggregate Quantity Demanded 45 45 E 1 C 1 + I + G + (X – IM) E 0 Y 1 Y 0 C 0 + I + G + (X – IM) Real GDP Real Expenditure (a) Rise in Price Level E 2 C 2 + I + G + (X – IM) E 0 Y 2 Y 0 C 0 + I + G + (X – IM) Real GDP Real Expenditure (b) Fall in Price Level 45 45 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. 176 Part 2 The Macroeconomy: Aggregate Supply and Demand The effect of higher prices on consumer wealth is just one of sev- eral reasons why the Aggregate Demand Curve slopes downward. A second reason comes from international trade. In Chapter 8’s discussion of the determinants of net exports (see section 8-7), we pointed out that higher U.S. prices (holding foreign prices con- stant) will depress exports (X) and stimulate imports (IM). That means that, holding other things equal, a higher U.S. price level will reduce the X IM ( ) 2 component of total expenditure, thereby shifting the 1 1 1 2 C I G X IM ( ) line downward and lowering real GDP, as depicted in Figure 5(a).

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Asymmetry and Aggregation in the EU

  • D. Mayes, Matti Virén(Authors)
  • 2011(Publication Date)
  • Palgrave Macmillan

    (Publisher)

  42 3 Aggregate Supply and Demand in an Open Economy In order to explain macroeconomic behaviour in the euro area we use the simple and very conventional four equation model of the econ- omy, consisting of an IS curve, a Phillips curve, and Okun curve and a monetary policy reaction function that we have employed earlier (Mayes and Virén, 2005) and described in outline in the previous chapter. 1 This enables us to explore the overall level of activity, inflation, un- employment and monetary policy in an open economy framework. We do not attempt to look at the determination of the exchangerate or the components of the balance of payments, nor do we consider wealth acquisition. Our model is thus incomplete. However, we are not seeking to substitute for Dynamic Stochastic General Equilibrium (DSGE) or other system approaches on this scale, we simply wish to explore the problems of asymmetry and aggregation and the con- cerns they pose for macroeconomic policy particularly in the EU, where single policies are implemented for member states that are quite heterogeneous. In this chapter we deal just with the IS curve. As set out in Chapter 2, we explore a conventional IS curve of the form: ∇y t = a 0 + a 1 ∇y t–1 + a 2 ∇y t–2 + a 3 rr t–i + a 4 re t–j + a 5 ∇y* t–k + ε t , (3.1) where ∇y is the deviation of output y from its Hodrick–Prescott filtered trend, rr is the real three-month interest rate (i.e. the nominal 1 A three equation version, omitting the labour market has received considerable attention – Cho and Moreno (2006). However, in our view, including the labour market is essential, as it is one of the core areas of asymmetry in the macroecon- omy, behaving in a manner that is clearly different from the asymmetry in aggre- gate activity.

  Sign up to read

  Learn more about book