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22.3 Aggregate Demand Curve

### Learning Objective

- What is the aggregate demand (AD) curve and what causes it to shift?

Imagine a fixed IS curve and an LM curve shifting hard left due to increases in the price level, as in Figure 22.6 "Deriving the aggregate demand curve". *As prices increase, Y falls and **i* rises. Now plot that outcome on a new graph, where aggregate output Y remains on the horizontal axis but the vertical axis is replaced by the price level P. *The resulting curve, called the aggregate demand (AD) curve, will slope downward, as below. The AD curve is a very powerful tool because it indicates the points at which equilibrium is achieved in the markets for goods* and *money at a given price level*. It slopes downward because a high price level, ceteris paribus, means a small real money supply, high interest rates, and a low level of output, while a low price level, all else constant, is consistent with a larger real money supply, low interest rates, and kickin’ output.

Because the AD curve is essentially just another way of stating the IS-LM model, anything that would change the IS or LM curves will also shift the AD curve. More specifically, *the AD curve shifts in the same direction as the IS curve*, so it shifts right (left) with autonomous increases (decreases) in C, I, G, and NX and decreases (increases) in T. *The AD curve also shifts in the same direction as the LM curve*. So if MS increases (decreases), it shifts right (left), and if M_{d} increases (decreases) it shifts left (right), as in Figure 22.3 "Predicted effects of changes in major macroeconomic variables".

### Key Takeaways

- The aggregate demand curve is a downward sloping curve plotted on a graph with Y on the horizontal axis and the price level on the vertical axis.
- The AD curve represents IS-LM equilibrium points, that is, equilibrium in the market for both goods and money.
- It slopes downward because, as the price level increases, the LM curve shifts left as real money balances fall.
- AD shifts in the same direction as the IS or LM curves, so anything that shifts those curves shifts AD in precisely the same direction and for the same reasons.