Aggregate demand is the sum of all consumer spending on products and services produced in the economy.
This indicator includes the following components:
- demand for consumer services and goods;
- demand for services and goods that are supplied by the state;
- demand for investment products;
- The demand for exported goods is the difference between the amount of goods that foreigners bought and that which domestic consumers bought.
Let us consider in more detail what aggregate demand is and the factors that determine it. First of all, price factors influence the quantity of consumed products.
- Interest rate effect - prices influence output through the interest rate. The increase in the cost of goods leads to the fact that people are trying to increase their cash receipts. That is, the demand for money is increasing . But if household incomes do not grow in line with expectations, then the amount of consumer spending and investment will decrease.
- The effect of cash balances or wealth - has an impact primarily on consumer spending. For example, with an increase in prices, purchasing power decreases , money gradually depreciates. The accumulated financial assets of the population, in particular bonds, term accounts, etc., are significantly lower than initially. People end up getting poorer, even keeping money at home.
- Effect of import purchases - affects the size of exports. With the increase in prices, the demand for foreign goods increases and decreases for domestic ones.
But not only the cost of products and services depends on consumer spending. Non-price factors of aggregate demand are diverse. They are divided into groups according to which elements they have an impact on.
- Factors affecting household consumption.
- Consumer well-being - people spend their money depending on the value of the assets they possess (real estate, bonds, stocks). So a sharp decrease in the price of them leads to the fact that people begin to spend less and save more.
- Consumer expectations - depend on people's forecasts. If they believe that real income will increase in the near future , then the aggregate demand for all goods is growing. And, accordingly, on the contrary, the expectation of a crisis in the economy leads to the fact that people begin to accumulate savings.
- Debt of customers - if people have a large number of loans, installments for previous acquisitions, then aggregate demand is sharply reduced.
- Taxation - lowering the income tax rate leads to the fact that people have more money left to buy goods.
2. Non-price factors that cause changes in investment costs.
- Interest rates - when they increase, there is a decrease in investment costs. For example, consider a decrease in money supply. Under the influence of this factor, the interest rate increases , deposits are reduced.
- Expected return on investment - aggregate demand is growing with optimistic forecasts.
- Taxes levied on enterprises - with their growth, the amount that firms and their employees are willing to spend is reduced.
- Technologies in production - any innovations contribute to the fact that the company is ready to invest more.
3. Factors associated with changes in government spending. If the government orders to purchase national products, this will increase the aggregate demand in the country.
4. Non-price factors that lead to changes in net export purchases.
- National income in foreign countries - with its increase, there is a possibility that demand in this country will grow for export products.
- Exchange rates - affect the choice of consumers. People decide which products to buy: imported or domestic.
Thus, aggregate demand is constantly influenced by a large number of factors.