3. Why the aggregate demand curve slopes downward

The following graph shows the aggregate demand (AD) curve in a hypothetical economy. At point A, the price level is 140, and the quantity of output demanded is $300 billion. Moving down along the aggregate demand curve from point A to point B, the price level falls to 120, and the quantity of output demanded rises to $500 billion.

010020030040050060070080017016015014013012011010090PRICE LEVELREAL GDP (Billions of dollars)ADAB

As the price level falls, the purchasing power of households' real wealth will , causing the quantity of output demanded to . This phenomenon is known as the effect.

When an economy's price level falls, ceteris paribus, the domestic price level relative to the price level in other countries will . This means that domestic exports will be relatively expensive than before, while foreign imports will be relatively expensive than they were previously. The number of domestic products purchased by foreigners (exports) will therefore , and the number of foreign products purchased by domestic consumers and firms (imports) will . Net exports will therefore , causing the quantity of domestic output demanded to . This phenomenon is known as the effect.

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