Definition: Aggregate demand (AD) represents the amount of total demand for an economy’s finished goods and services during a specified period at a given price level.
What Does Aggregate Demand Mean?
What is the definition of aggregate demand? Aggregate demand is equal to a nation’s gross domestic product (GDP) in the long-term. However, in the short-term, AD measures the total spending of the economy on domestic goods and services for a given period and at a given price level. Generally, when consumer confidence is high, and people feel optimistic about the future of the economy, they tend to spend more money.
Similarly, firms tend to seek new investment opportunities, believing that they will realize substantial returns. High consumer confidence tends to increase the AD for an economy’s total output. Conversely, low consumer confidence tends to reduce the AD.
Let’s look at an example.
Example
To calculate the aggregate demand formula, economists add consumer spending, government spending, investment, exports, and imports.
Therefore, the AD equals = C +G + I + X + M.
Consider the following table:
In the years 2006 to 2008, i.e. before the financial crisis, consumer spending, government spending and investment are higher than in the years after 2008. From 2006 to 2008, consumer confidence is high because the economy was still growing and people were optimistic. Also, note that consumer spending is the main determinant of the AD. Then, from 2008 till 2015, consumer and business confidence reflect macroeconomic realities, i.e. investment spending is lower, government spending shrinks, and consumers are pessimistic about the economy’s future.
Of course, consumer confidence may rise or fall due to factors, which are not directly related to a nation’s macroeconomic indicators, such as a political event, war or foreign policy events. Finally, government policies and tax regulations cause consumer confidence and spending to fall, thereby lowering the demand in the aggregate for an economy’ total output.
Summary Definition
Define Aggregate Demand: AD means the total amount of goods and services demanded in an economy or industry.
