Answer to Question #253769 in Macroeconomics for Vickie

Question

Discuss the reason why the aggregate demand curve will thus slope downwards

Answer 1

The downward sloping of the aggregate demand curve, as shown in, is the most prominent aspect. This association exists for a variety of reasons. Remember that a downward sloping aggregate demand curve suggests that the quantity of production requested rises as the price level falls. Similarly, as the price level falls, so does the national income. The downward sloping aggregate demand curve can be explained in three ways. Pigou's wealth effect, Keynes' interest-rate effect, and Mundell-exchange-rate Fleming's impact are all examples of these effects. These three factors are separate, but they all contribute to the downward sloping aggregate demand curve.

Pigou's wealth effect, Keynes' interest-rate effect, and Mundell-exchange-rate Fleming's effect are the three main explanations for the downward slope of the aggregate demand curve. Pigou's wealth effect states that for a given amount of money, a lower price level offers greater purchasing power per unit of currency. As a result, when the price level falls, consumers get wealthier, causing them to spend more, raising aggregate demand, and vice versa. According to Keynes' interest-rate effect, a low price level encourages consumers to save, which lowers the interest rate and stimulates investment demand.

As a result, a decrease in the price level lowers the interest rate, which leads to an increase in investment demand and, as a result, an increase in aggregate demand. According to the Mundell-Fleming exchange rate impact, as prices fall, interest rates fall, causing a rise in domestic investment in foreign nations, which depreciates the real exchange rate, increasing net exports and aggregate demand.