What Happens When Aggregate Demand Decreases?

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Aggregate demand refers to the total demand of all final goods and services produced within the domestic territory of a country at the given time and price level. Aggregate demand is the demand for gross domestic product of a country at a static inventory level; it is also called "effective demand." The aggregate demand curve is downward-sloping, as lesser quantities are demanded at higher prices and greater quantities are demanded at lower prices.

Expectation of Lower Inflation

A decrease in aggregate demand leads to expectations of a lower inflation rates, as people start postponing their consumption as they expect the prices of goods and services to go down in the near future.

Consumer Confidence

Lower aggregate demand also creates uncertainties in the market. Consumers loose confidence in the market as they expect the value of their investments to decline in the near future; they start withdrawing from the market and hold their investments.

Impact on Imports

When aggregate demand decreases, general price levels go down; a decrease in general price levels reduces the price of domestic goods and services, making foreign goods costlier. This in turn reduces net imports.

Government Expenditure and Taxes

Government decreases its public expenditure and increases the taxes to raise government revenues at the time of lower aggregate demand to compensate for the loss of revenue.

International Competitiveness

When price level in a certain country is lower than in other countries, the goods and services produced in that country will be more competitive in the international market. This increases the export of the country in question to other countries, thereby increasing its national income.

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