The AD curve is the aggregate demand
|
The AD curve is the aggregate demand as a function of P whenthe goods and money market are both in equilibrium
|
AD curve demonstrates not only the equilibrium combinations of P and Y - it also demonstrates the aggregated demand as a function of P when both markets are in equilibrium. This follows from equilibrium condition in the goods market that requires aggregate demand to be equal to GDP. When we change P, AD curve will tell us the response of Y and thus also the response of YD. You may hence use the AD curve to find the aggregate demand for different prices under the condition that both markets are in equilibrium.
Primarily, this may seem like a contradiction. We claimed that only endogenous variables that affect aggregate demand where Y andR. Particularly we stated that P doesn't affect YD as long as we kept R and Y fixed.
- If we start in equilibrium and change P however keep R and Y constant, YDwon't change though we will no longer be in equilibrium in money market.
- If we require both markets to be in equilibrium, R and Y should change when P changes.
- Specifically, R should fall and Y should increase when P decreases if both markets are to be in equilibrium.
- As YDrelies positively on Y and negatively on R, YD will then increase.
- So YD increases when P falls when both markets remain in equilibrium and there is no contradiction.