US & World Economies Economic Terms What Is Aggregate Demand? Aggregated Demand Explained By Kimberly Amadeo Kimberly Amadeo Kimberly Amadeo is an expert on U.S. and world economies and investing, with over 20 years of experience in economic analysis and business strategy. She is the President of the economic website World Money Watch. As a writer for The Balance, Kimberly provides insight on the state of the present-day economy, as well as past events that have had a lasting impact. learn about our editorial policies Updated on October 25, 2021 Reviewed by Michael J Boyle Reviewed by Michael J Boyle Michael Boyle is an experienced financial professional with more than 10 years working with financial planning, derivatives, equities, fixed income, project management, and analytics. learn about our financial review board Share Tweet Pin Email In This Article View All In This Article Definitions and Examples of Aggregate Demand How Does Aggregate Demand Work? What It Means for You Definition Aggregate demand is a way to measure how many goods and services people buy. It's usually reported for a specific time period, such as a month, quarter, or year. Retail is a big driver of economic output. Photo: Photo: Ariel Skelley/Getty Images Definitions and Examples of Aggregate Demand Aggregate demand is the total demand for final goods and services in an economy. The law of demand assumes the other determinants of demand don't change. The other determinants are income, prices of related goods or services (whether complementary or substitutes), tastes, and expectations. The sixth determinant that only affects aggregate demand is the number of buyers in the economy. There are five components of aggregate demand. Everything purchased in a country is the same thing as everything produced in a country. As a result, aggregate demand equals the gross domestic product of that economy. These are the same as the components of GD: Consumer spending: That's what families spend on final products that aren't used for investment.Investment spending by business: This only includes purchases of equipment, buildings, and inventory.Government spending on goods and services: It does not include transfer payments, such as Social Security, Medicare, and Medicaid. They aren't included because they don't increase demand. These programs shift demand from one group (taxpayers) to another (beneficiaries).Exports: This is demand from other countries.Minus imports: These are demands made by U.S. residents that can't be met by domestic production. So, the demand leaves the economic system of the United States. When COVID-19 hit, the U.S. GDP became alarmingly low in the second quarter of 2020. As a result, aggregate demand also fell. This had to do with the supply shock that happened when factories and businesses that supply services closed. Experts are expecting a rebound as suppliers ramp up production. The most critical component of demand is consumer goods and services. While the U.S. supplies its own services, it imports goods that can be made more efficiently overseas. These include industrial supplies, oil, telecommunication equipment, autos, clothing, and furniture. Note The five factors that make up aggregate demand are the same used to determine a country's gross domestic product. How Does Aggregate Demand Work? As incomes rise, people can buy more. As people buy more, companies can make more, and then pay employees more. The ideal situation is healthy growth with moderate inflation. Aggregate demand is measured by the following mathematical formula. AD = C + I + G + (X-M) It describes the relationship between demand and its five components. Aggregate Demand = Consumer Spending + Investment Spending + Government Spending + (Exports - Imports) The formula for aggregate demand is the same as the one used by the Bureau of Economic Analysis to measure nominal GDP. In the first quarter of 2021, it was $22.06 trillion. Here's how to calculate it. Use Table 1.1.5 GDP of the BEA's GDP and Personal Income Accounts. C = Personal Consumption Expenditures of $15.07 trillionI = Gross Private Domestic Investment of $3.92 trillionG = Government Consumption Expenditures of $3.95 trillion(X-M) = Net Exports of Goods and Services of -$0.875 billion Add them together and you get $22.06 trillion. Note Demand drives economic growth, and growth drives demand. What It Means for You The government makes policy depending on how strong demand is in the country. If demand is low, then the government will try to increase it. That's when the nation's central bank uses expansionary monetary policy. It lowers interest rates and that decreases the cost of automobile, education, and home loans. Similarly, businesses borrow more to buy equipment and expand their operations. The law of demand tells you that lower costs spur demand and economic growth. Ideally, monetary policy should work in conjunction with the government's fiscal policy. Government leaders spur demand by reducing taxes or increasing spending on programs. That's called expansionary fiscal policy. Key Takeaways Aggregate demand is the demand for all goods and services in an economy.The law of demand says people will buy more when prices fall.The demand curve measures the quantity demanded at each price.The five components of aggregate demand are consumer spending, business spending, government spending, and exports minus imports.The aggregate demand formula is AD = C + I + G + (X-M). Was this page helpful? Thanks for your feedback! Tell us why! Other Submit Sources The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy. Federal Reserve Bank. "Aggregate Demand and Aggregate Supply Effects of COVID-19: A Real-time Analysis." Accessed July 2, 2021. Bureau of Economic Analysis. “National Income and Product Accounts Tables," Table 1.1.5. Nominal GDP. Accessed July 2, 2021.