Question

Define aggregate demand? How does aggregate demand affect the macro economy

Answer 1

(a) Meaning:

Aggregate demand refers to the total demand for final goods and services in the economy.

Since aggregate demand is measured by total expenditure of the community on goods and services, therefore, aggregate demand is also defined as ‘total amount of money which all sectors (households, firms, government) of the economy are ready to spend on purchase of goods and services.

Aggregate demand can be illustrated by reference to the circular flow of income.

Aggregate demand is generated as income is transferred to spending as a result of the circular flow of income. Income is spent on consumer goods and services (C) plus spending on capital goods by firms (I). Spending is also generated by government when it allocates resources to public goods, merit goods and income transfers, such as pension benefits. Finally, there is 'net overseas spending', which is overseas spending on an economy's exports of goods and services, less what the economy spends on importing goods and services.In this way it affects macro economy.