๐ Understanding Aggregate Demand (AD)
Aggregate Demand (AD) represents the total demand for all goods and services in an economy at a given price level. Think of it as the total spending by everyone in the economy. It's a crucial concept in macroeconomics because it helps us understand economic fluctuations, like recessions and booms.
- ๐ฐ Definition: The total planned expenditure on goods and services at various price levels.
- ๐ Curve: The AD curve slopes downward, meaning that as the price level decreases, the quantity of aggregate demand increases. This is due to the wealth effect, interest rate effect, and international trade effect.
- ๐ Components: AD is made up of Consumption (C), Investment (I), Government Spending (G), and Net Exports (NX). We'll break these down further.
๐ Aggregate Supply (AS): A Macroeconomic Definition
Aggregate Supply (AS) represents the total quantity of goods and services that firms are willing and able to produce at a given price level in an economy. It tells us how much output the economy can supply at different price levels.
- ๐ญ Definition: The total quantity of output that firms will produce and sell at each price level.
- ๐ฑ Short Run vs. Long Run: We distinguish between short-run aggregate supply (SRAS) and long-run aggregate supply (LRAS). The SRAS curve is upward sloping, while the LRAS curve is vertical.
- ๐ ๏ธ Factors Affecting AS: Changes in input costs (like wages or raw materials), productivity, and technology can shift the AS curve.
๐งฎ Components of Aggregate Demand: Understanding the AD Formula
The aggregate demand formula is a cornerstone of macroeconomic analysis. Let's break down each component:
The formula is: $AD = C + I + G + NX$
- ๐ Consumption (C): Spending by households on goods and services (e.g., food, clothing, cars). This is usually the largest component of AD.
- ๐ข Investment (I): Spending by firms on capital goods (e.g., machinery, equipment, buildings). Also includes inventory investment.
- ๐๏ธ Government Spending (G): Spending by the government on goods and services (e.g., infrastructure, defense, education). Note that transfer payments (like social security) are *not* included in G.
- Exports and Imports are essential for this calculation. Net Exports (NX): The difference between exports (goods and services sold to foreigners) and imports (goods and services purchased from foreigners). $NX = Exports - Imports$
โฑ๏ธ Short-Run Aggregate Supply (SRAS): Definition
Short-Run Aggregate Supply (SRAS) shows the relationship between the price level and the quantity of output firms are willing to supply in the short run, assuming that some input costs (like wages) are fixed.
- โฌ๏ธ Upward Sloping: The SRAS curve is upward sloping because firms can increase production in the short run when prices rise, without facing proportional increases in input costs.
- โ๏ธ Sticky Wages/Prices: The upward slope is due to the assumption that wages and other input prices are "sticky" in the short run, meaning they don't adjust immediately to changes in the price level.
- ๐ฅ Shifts in SRAS: SRAS can shift due to changes in input costs (e.g., wages, energy prices), productivity, or supply shocks (e.g., natural disasters).