Chapter_4 - Chapter 4 Macroeconomic Measurements Importance...

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Unformatted text preview: Chapter 4 Macroeconomic Measurements Importance of macroeconomic measurements • Health of the economy • Comparisons over time • Formulation of public policy track the economy in the short run to better the economy in the long run Some Economic Issues – Economic growth and living standards both labor and capital productivity, can you produce more or the – Productivity same outputs by using less inputs then you are more productive – Recessions and expansions can a recession today predict one tomorr as the number of jobs goes up then the demand is satified – Unemployment and unemployment goes down – Inflation – Economic interdependence among nations trade some questions... is the economy growing, how fast is it growing compared to past? Macroeconomic Goals • Full Employment • Price Stability this does not mean 0 unemployment inflation as low as possible • Economic Growth Measuring Prices price level, totals must add to 100% • Price Level: A weighted average of the prices of all goods and services. • Price Index: A measure of the price level. • Consumer Price Index (CPI): A widely cited index for the price level; the weighted average of prices of a specific set of goods and services purchased by a typical another is the ppi household. measure of the average person prices CPI • To understand cost of living, we first study a basket of goods and services that a typical consumer is likely to buy. • The Consumer Price Index (CPI) is used to monitor changes in the cost of living (i.e. the selected market basket) over time. • When the CPI rises, the typical family has to spend more dollars to maintain the same standard of living. • The CPI reports the movement of prices not in dollar amounts, but with an index number. there are no units attached the the number the cpi effects you based upon how far away you are from the average What’s in the CPI’s Basket? 45 40 35 30 25 20 15 10 5 0 % of Budget H ousing Food/Beverages Transportation M edical Care Apparal & U pkeep Entertainm ent O thers Calculating the CPI • Determine what goods are most important to the typical consumer: Fix the Basket BLS, bureau of labor statistics fixes it • Find the prices of each of the goods and services in the basket for each point in time: Find the Prices • Use the data on prices to calculate the cost of the basket of goods and services at different times: Compute the Basket’s Cost • Designate one year as the Base Year, which is the benchmark for yearly comparison. a base year is a year to be measured against, it is a year that had normal activities, no recessions expansions or natural disasters • Compute the index by dividing the price of the basket in one year by the price in the base year and multiplying by 100. going off this model, your income value has gone down because the prices have gone up Calculating the Percentage Change in Prices (as measured by the CPI) • Percentage difference in the CPI from one year to any other year = (CPI later year – CPI earlier year) X 100 __________________________________________________________________________________ CPI earlier year • Inflation: an increase in the price level. {(current year - base year)/base year}*100 if the cpi is rising then that is inflation Are You Beating (CPI) Inflation or is Inflation Beating You? 1. when you are keeping up with inflation, your income is growing at the same rate as inflation 2. when inflation is beating you, your standard of living went down, inflation is growing faster than your income 3. when you beat inflation,, your income increases more than inflation • Nominal Income: the current-dollar amount of a person’s income. • Real Income: nominal income adjusted for price changes. • Real Income (in base year prices) = [(Nominal Income)/CPI]x100 any real variable accounts for inflation when you talk about real income, it is the amount of goods and services you can buy with your money whereas nominal is just your paycheck purchasing power is how much your money can buy log(nominal/price)=log(nominal)-log(price) real=nominal/price Correcting Economic Variables for the Effects of Inflation • To convert (inflate) past wages and prices into current terms: Value in Current Year Dollars = Past Year Nominal Value X [(Price index in current year) ÷ (Price index in past year)] • To convert (deflate) current wages and prices into past year terms: Value in Past Year Dollars = Current Year Value X [(Price index in past year) ÷ (Price index in current year)] Example to inflate wages Dollar Figures from Different Times To convert (inflate) Sam’s wages in 1931 to dollars in 2001: Salary2001 Price level in 2001 Salary1931 Price level in 1931 1931 salary*(cpi of 2001/cpi of 1931) 177 $80,000 15.2 $931,579 Gross Domestic Product • The primary measure of an economy’s performance. • Total market value of all final goods and services produced in a given year. • The value of the final goods already includes the value of the intermediate goods, so including intermediate and final goods in GDP would be double-counting. *it is used because it is easy, it is well correlated to other human trends... ie higher rate of literacy means a higher GDP *goods are either final or intermediate, final is the end product like orange juice, intermediate is the good that goes *GDP=revenue=price*quantity into the final product like oranges *GDP is only stuff that is produced in that current year Final and Intermediate Goods • Final Goods and Services – Are not used as inputs into the production of another good or service – Are bought by their final users • Intermediate goods – Are used as inputs into the production of another good or service – Examples • Intermediate goods – windshields, gearboxes, batteries • Intermediate services – banking and insurance services bought by a car producer • How to tell – Look at who buys it and for what purpose – Example: electric power • Intermediate when bought by car producer • Final when bought for your home What GDP Omits • Certain non-market goods and services • Underground activities, both legal and illegal • Sales of used goods • Financial transactions • Government transfer payments. • Leisure • Not adjusted for “bads” bads are goods that the buyer didnt like • Transfer Payment: a payment to a person that is not made in return for goods and services currently supplies. Methods for calculating GDP tested in depth on the test • Expenditure Approach: Add the money spent by buyers on final goods and services. • Income Approach: Adding all wages and all profits. must add rest and interest • Value-Added Approach: Adding the values added to a product at all stages of production. Per Capita GDP per capita means per person or per head • Per Capita GDP: GDP divided by the population. • GDP figures are useful for obtaining an estimate of the productive capabilities of an economy but they do not necessarily measure happiness or well being. The Expenditures Approach to Computing GDP • Consumption: the sum of spending on durable goods, non-durable goods, and services. • Investment: the sum of purchases of newly produced capital goods, changes in business inventories, and purchases of new residential housing. • Government Purchases: federal, state, and local government purchases of goods and services and gross investment in highways, bridges, and so on. economic agents • Net Exports: exports minus imports. individuals firms government foreign sector National Income (GDP) identity Y = C + II + G + NX Y = C + + G + NX Total demand Total demand for domestic for domestic output (GDP) output (GDP) is composed is composed of of Investment Investment spending by spending by businesses and businesses and households households Government Government purchases of goods purchases of goods and services and services Consumption Consumption spending by spending by households households Net exports Net exports or net foreign or net foreign demand demand net exports is the exports - imports Real vs. Nominal GDP real GDP= (nominal GDP/cpi or price level REAL GDP: production valued at constant prices. if the real GDP changes then that is a change in output because it is price held constant NOMINAL GDP: production valued at current prices. price*quantity price level*Quantity Price level for a certain year*Quantity sold for that certain year Rise in GDP from one year to the next 1. GDP = P x y Real Production increases, prices remain constant. 2. GDP = P x y Nominal Prices increases, production remains constant. 3. GDP = P x y Nominal Prices increases, production increases. Example to calculate Real GDP Nominal GDP 1997 GDP = P x Nominal GDP 1998 GDP = P x y y $10.00 = $5 x 2 $18.00 = $6 x 3 Real GDP 1998 = P 1997 x y 1998 $15.00 = $5 x 3 GDP Deflator Nominal GDP GDP deflator = 100 Real GDP Measures the price of output relative to its price in the base year. It reflects what’s happening to the overall level of prices in the economy. used to track price movements in the economy this is (price today*quantity today)/(price last year*quantity today) GDP deflator vs CPI both track inflation • Both are measures of inflation. • The GDP deflator measures the prices of all goods produced. • The CPI measures prices of only the goods and services bought by consumers. • The GDP deflator compares the price of currently produced goods and services to the price of the same goods and services in the base year. • The CPI compares the price of a fixed basket of goods and services to the price of the basket in the base year Unemployment • A person is employed if he or she has spent most of the previous week working at a paid job. • A person is unemployed if he or she is: – on temporary layoff – is looking for a job – is waiting for the start of a new job • A person in neither category is not in the labor force. Breakdown of the U.S. Population and the Labor Force group of interest The Unemployment and Employment Rates • Unemployment Rate: # unemployed/CLF *100 • Employment Rate: # employed/civilian NI population *100 • Labor Force Participation Rate: fraction of working age population who are either employed or actively seeking work (unemployed) = # employed + # unemployed Types of Unemployment moving between jobs in the same industry • Frictional: Transitional unemployment due to people moving between jobs: Includes people experiencing short spells of unemployment (Short Term) when the entire economy goes under a change and that change causes the unemployment • Structural: Arises from the mismatch of skills and job opportunities as the pattern of labour demand in the economy changes (Long Term). Example: As the coal industry declined, many miners had difficulties utilising their skills to find work in new industries such as IT and service sector work. An example of structural change in the economy leading to unemployment. Types of Unemployment contd… • Seasonal Unemployment: Unemployment caused because of the seasonal nature of employment – tourism, skiing, cricketers, beach lifeguards, etc. • Cyclical: Refers to the year-to-year fluctuations in unemployment around its natural rate. Deals with short-term fluctuations associated with the ups and downs of the business cycle. = Unemp rate - Natural unemp rate either a recession or boom Types of Unemployment contd… frictional + structural • Natural Unemployment Rate = F + S represents persistent joblessness that does not go away on its own even in the long run. Refers to the amount of unemployment that the economy normally experiences. • Full Employment = when the unemployment rate is equal to the natural unemployment rate. Application of unemployment: Minimum Wage Price of Labor wages Supply Equilibrium without Minimum Wage Demand Quantity of Labor in the labor market, supply is the # of people want to work while the demand is the demand from companies for the workers Price of Labor Supply PM Minimum Wage Law Established Demand QD QS Quantity of Labor Price of Labor Supply PM Surplus or Unemployment QD QS Demand Quantity of Labor Economic Growth • Increases in Real GDP {(Real GDPcurrent year – Real GDPearly year)/ Real GDPcurrent year} * 100 earlier • A positive number indicates that the economy has grown from one year to the next Business Cycles • Represents fluctuations of economic activity • Involves shifts over time between periods of relatively rapid growth of output and periods of relative stagnation or decline • Often measured using real GDP Ups and downs of the Business Cycle • Peak: at the peak of the business cycle, Real GDP is at a temporary high. • Contraction: A decline in the real GDP. If it falls for two consecutive quarters, it is said to be in a recession. • Trough: The Low Point of the GDP, just before it begins to turn up. • Recovery: When the GDP is rising from the trough. • Expansion: when the real GDP expands beyond the recovery Components of business cycles ...
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