Unit 3 AD notes

Aggregate Demand (AD) – shows the amount of real GDP that thee private, public, and foreign sector collectively desire to purchase at each possible price level. Relationship between price level and real GDP is inverse 

3 reasons AD is downward sloping: 

1.       Real-balances effect- when price level is high and businesses cant afford to purchase as much output. When price is low can purchase more output.
2.       Interest- rate effect- high price level increases interest rate decreases investment
3.       Foreign purchases effect- higher price level increases demand for relatively cheaper imports. Lower price-level increases the foreign demand for US exports

Shifts in AD

2 things: 

1.       change in C, Ig, G, and/or Xn
2.       multiplier effect that produces greater change that original change in  the 4 components

Increase= shift to right

Decrease= Shift to left

Determinants of AD:

                Consumption affected by:

                                Consumer Wealth: more wealth= more spending (AD shifts right) opposite also true

                                Consumer expectations: Positive expectations= more spending (AD shifts right) opposite also true

                                Household indebtedness: less debt= more spending (AD shift right) opposite also true

                                Taxes: Less taxes= more spending (AD shifts right) opposite also true

                Gross Private Domestic Investment:

                                Real interest rate: lower interest rate= more investment (AD right) opposite also true

                                Expected Returns: Higher expected returns= more investment (AD right) opposite also true. Expected returns influenced by: Expectations of future, Technology, Degree of excess capacity, business taxes.

               

                Government spending:

                                More government spending (AD right)

                                Less Government spending (AD left)

                Net exports:

                                Exchange rate: Strong $= more imports and less exports= (AD left) opposite also true

                                Relative income: Strong foreign economies= more exports= (AD right) opposite also true