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2. KRUGMAN’S
Economics
for AP®
S E C O N D E D I T I O N

3. Section 4
Module 17

4. What You Will Learn in this Module
Use the aggregate demand curve to illustrate the relationship between the aggregate price level and the quantity of aggregate output demanded in the economy
Explain how the wealth effect and interest rate effect give the aggregate demand curve a negative slope
Identify the factors that can shift the aggregate demand curve
What You Will Learn in this Module
Section 4 | Module 17

5. Aggregate Demand
The aggregate demand curve shows the relationship between the aggregate price level and the quantity of aggregate output demanded by households, businesses, the government and the rest of the world.
Section 4 | Module 17

6. The Aggregate Demand Curve
Aggregate price
level (GDP deflator,
2005 = 100)
A movement down the
AD curve leads to a lower
aggregate price level and
higher aggregate output.
1933
7.9
5.0
Aggregate demand
curve, AD
$716
950
Real GDP (billions of 2005 dollars)
Section 4 | Module 17

7. Why Is the Aggregate Demand Curve Downward Sloping?
When considering the aggregate demand curve, we consider a simultaneous change in the prices of all final goods and services.
It is downward-sloping for two reasons:
The first is the wealth effect of a change in the aggregate price level—a higher aggregate price level reduces the purchasing power of households’ wealth and reduces consumer spending.
The second is the interest rate effect of a change in aggregate the price level—a higher aggregate price level reduces the purchasing power of households’ money holdings, leading to a rise in interest rates and a fall in investment spending and consumer spending.
Section 4 | Module 17

8. Shifts of the Aggregate Demand Curve
The aggregate demand curve shifts because of:
changes in expectations
wealth
the stock of physical capital
government policies
fiscal policy
monetary policy
Section 4 | Module 17

9. Shifts of the Aggregate Demand Curve
(a) Rightward Shift
(b) Leftward Shift
Decrease in Aggregate Demand
Aggregate price level
Aggregate price level
Increase in
Aggregate Demand AD AD AD AD 1 2 2 1
Real GDP
Real GDP
Section 4 | Module 17

10. Factors that Shifts the Aggregate Demand Curve
Section 4 | Module 17

11. Factors that Shifts the Aggregate Demand Curve
Section 4 | Module 17

12. Summary
The aggregate demand curve shows the relationship between the aggregate price level and the quantity of aggregate output demanded.
The aggregate demand curve is downward sloping for two reasons: the wealth effect of a change in the aggregate price level and the interest rate effect of a change in the aggregate price level.
The aggregate demand curve shifts because of changes in expectations, changes in wealth not due to changes in the aggregate price level, and the effect of the size of the existing stock of physical capital.
Policy makers can use fiscal policy and monetary policy to shift the aggregate demand curve.
Section 4 | Module 17