Aggregate demand summarizes planned spending on domestically produced goods and services at different price levels. This lesson introduces its components and explains what it means for the aggregate demand curve to shift.
The equation focuses on demand for goods and services produced within the domestic economy.
When a household buys an imported product, that purchase is included in consumption spending. However, the product was not made domestically, so the spending should not count as demand for domestic production. The M term subtracts imports back out of the spending totals in which they were included.
All flashcards
What is the aggregate demand equation?
The equation is AD=C+I+G+X−M, where consumption, investment, government spending, and exports are combined and imports are subtracted.
What does the consumption component include?
Consumption (C) is household spending on goods and services.
Why does the AD equation subtract imports?
Imported products may be counted in consumption, investment, or government purchases, but they are not domestic production. Subtracting imports removes that foreign-produced spending from the measure of demand for domestic output.
What does a rightward shift of AD indicate?
It indicates that planned spending on domestic output has increased at every price level.
How is a movement along AD different from an AD shift?
A change in the price level causes a movement along the existing curve. A change in a non-price determinant of spending changes planned demand at every price level and shifts the curve.
Quiz questions
When business confidence rises because firms expect stronger sales, what is a likely effect?Answer: Firms increase investment, shifting aggregate demand to the right.
What is a self-fulfilling prophecy in an economic context?Answer: A belief changes behavior in a way that helps produce the expected outcome.
When output is below potential and unemployment is high, what may a tax cut do?Answer: Encourage spending and raise output and employment, with relatively muted price pressure.
How do higher interest rates generally affect household and business spending?Answer: They tend to discourage borrowing, reducing consumption and investment.
If aggregate supply is relatively flat where aggregate demand shifts right, what is the likely outcome?Answer: A comparatively larger increase in output and a smaller increase in the price level.
Based on Principles of Economics 3e by Steven A. Greenlaw, David Shapiro, Daniel MacDonald (OpenStax), licensed CC BY 4.0. Adapted into a summary, flashcards and quizzes.