AP MACRO 3.1

AP Macro Unit 3: National Income and Price Determination

Aggregate Demand

• Aggregate Demand: Total demand for goods and services in an economy at a given price level.

What is Aggregate Demand?

• Defined by the total spending in an economy:

  • C = Consumer Spending

  • I = Investment Spending

  • G = Government Spending

  • NX = Net Exports

The Aggregate Demand Curve

• Aggregate Demand Variables: The curve shows the relationship between the price level and the quantity of goods demanded.

Why is AD Downward Sloping?

1. The Wealth Effect

   • As prices fall, the purchasing power of consumer wealth increases, leading to higher quantity demanded.

2. The Interest Rate Effect

   • Lower price levels lead to lower interest rates, encouraging more investment due to cheaper loans.

3. The Foreign Trade (Net Exports) Effect

   • As domestic prices decrease, U.S. goods become cheaper for foreign buyers, increasing net exports.

Shifters of Aggregate Demand

• Understanding how these factors cause shifts in Aggregate Demand under different scenarios is crucial.

Shifters of Aggregate Demand: Details

• 1. Changes in Consumer Spending

  • Factors include:

    • Disposable Income

    • Consumer Expectations

    • Household Indebtedness

• 2. Changes in Investment Spending

  • Factors include:

    • Real Interest Rates

    • Future Business Confidence

    • Capital Good Purchases

• 3. Changes in Government Spending

• 4. Changes in Net Exports

  • Related factors include:

    • Exchange Rates

    • National Income Abroad

Aggregate Demand Equation

• AD = C + I + G + NX

• This equation can also be used to compute Nominal GDP.

Shifts in Aggregate Demand

• An increase in spending shifts AD to the right.

• A decrease in spending shifts AD to the left.

• Note: Price levels alone do not shift the curve; they lead to movements along the curve.

Aggregate Demand Shifting Practice

• Engage in scenarios to understand the component of AD affected and overall impact on AD, specifically for the U.S. economy.

Scenario Examples

• Spain experiences an increase in income

  • Result: Net Exports increase due to higher foreign demand for U.S. products.

• Government increases household income taxes

  • Result: Consumer Spending decreases as higher taxes lower disposable income.

• Interest Rates rise from 5% to 5.5%

  • Result: Investment decreases since higher interest rates deter business investment.

• Forsyth County Schools purchases MacBook Pros for students

  • Result: Government Spending increases AD.

• Wendy’s purchases new grills for all restaurants

  • Result: Investment Spending increases AD.

• The U.S. dollar appreciates

  • Result: Net Exports decrease as American goods become more expensive for foreign buyers.

• Stock prices start to drop

  • Note: This does not affect GDP; thus, it does not affect Aggregate Demand.

• Government cuts spending to reduce budget deficit

  • Result: Decrease in Government Spending decreases AD.

• Inflation falls by 2%

  • Note: This causes a movement along the AD curve, not a shift.

• U.S. imports fall

  • Result: Net Exports increase; thus, AD increases.

Homework

• Complete Workbook Topic 3.1 to reinforce learning about Aggregate Demand.