AP Macroeconomics Unit 2

Labor Force Participation Rate (LFPR)

(labor force / (working age popiulation)) * 100

employment

(people who have a job / labor force) * 100

unemployment

100% - employment rate

GDP Per Capita 

real GDP / population 

value added

value of outputs - value of inputs

real GDP (Y) using income approach

before-tax/transfer worker income +
before-tax/transfer capital income +
before-tax/transfer land income +
before-tax/transfer income earned by foreigners in the US −
after-tax/transfer income earned by Americans abroad

real GDP (Y) using expenditure approach

consumption + investment + government purchases + net exports 

net exports

exports - imports

real GDP (Y) using output approach

P1×Q1 + P2×Q2 + P3×Q3 + …

nominal GDP

P1(current) × Q1(current) +
P2(current) × Q2(current) +
P3(current) × Q3(current) +

real GDP

P1(base) × Q1(current) +
P2(base) × Q2(current) +
P3(base) × Q3(current) + …

growth rate

(new − original) / (original) × 100%

growth factor

(new) / (original) =
(growth rate + 100%) / (100%)

nGDP growth factor

real GDP growth factor × PL growth factor

nGDP growth rate

real GDP growth rate % + inflation rate %

GDP deflator

nominal GDP / (real GDP) × 100

base year GDP deflator

nominal GDP(base) / real GDP(base) × 100 is always equal to 100

current year inflation rate
(GDP deflator growth rate)

(current year GDP deflator) − (last year GDP deflator) × 100% / (last year GDP deflator)

current year basket cost

P1(current) × Q1(basket) +
P2(current) × Q2(basket) +
P3(current) × Q3(basket) +

base year basket cost

P1(base) × Q1(basket) +
P2(base) × Q2(basket) +
P3(base) × Q3(basket) +

current year CPI

(current year basket cost) / (base year basket cost) × 100

base year CPI

(base year basket cost) / (base year basket cost) × 100 = 100

current year inflation rate
(CPI growth rate)

(current year CPI) − (last year CPI) / 
(last year CPI) * 100% 

purchasing power ($V)

1 / Price Level

relationships between households and firms

households provide labor to firms through the factor market in exchange for wages 

firms provide goods + services through the product market in exchange for revenue in the form of consumer spending 

gross domestic product

total market value of all final goods and services produced in a country in one year 

purpose of GDP

receive a total count of production within an economy 

tracks the health of a country’s economy

factors included in GDP? 

final goods = ketchup, burger

positive GDP meaning

lots of production is occurring

factors not included in GDP calculation

used + secondhand products

purely financial transactions (stock payments and bonds

transfer payments - social welfare, scholarships, grants 

services provided for no money 

foreign-produced goods and services 

inputs/intermediate goods + services 

3 ways to measure the GDP

value of production of final goods + services 

factor income earned by households from firms in the economy 

value of spending on domestically produced final goods and services (aggregate spending model + expenditure approach) 

GDP equation

consumption spending + investment spending + government spending + net expports

consumption spending

durable and nondurable goods

investment spending

machinery, tools, changes in inventory, construction = basically renovations and decisions that would occur in a business 

time period for the GDP calculations

GDP measures one year’s producitivity

limitations of GDP

doesn’t include equal prosperity and higher living conditions - no leisure time, volunteering, housework, natural beauty

employed workers

peopel who are currently holding a job in the economy (either full or part time)

unemployed workers

people who are not currently employed but are actively looking for work 

labor force

sum of the employed and unemployed

limitations to the unemployment rate

lots of people who are not included in the labor force so they are not included in the unemployment rate

discouraged workers: nonworking people who are capable of working but have given up looking for a job due to the current state of the job market 

marginally attached workers - workers who would like to be emploiyed and have looked for a job in the recent past but are not constantly looking for work anymore 

measures of unemployment

U3: official unemployment rate reported within the media

U6: broadest measure of employment that includes discouraged, marginally attached, and underemployed workers

frictional unemployment

type of unemployment that occurs when a worker is spending time searching for new opportunities (new graduate or someone who just moved countries) 

structural unemployment

type of unemployment that happens when there’s more people seeking jobs than are available at the current wage rate 

when workers skills are obsolete and no longer neeed (often because of better technology taking over human jobs) 

cyclical unemployment

type of unemployment that follows business cycle because when recessions occur people lose their jobs and then they regain those jobs or even new jobs after the economy picks up 

natural rate of unemployment

frictional + structural unemployment

actual rate of unemployment

natural rate of unemployment + cyclical rate of unemployment 

consumer price index

measure of the average change over time in the prices paid by consumers for a fixed “market basket” of goods and services

market basket

goods and services purchased by the consumers

price x quantity of a specific year for all goods

rise of cpi vs fall of cpi

rise in cpi indicates inflation

fall in cpi indicates deflation 

CPI from market basket

(market basket of current year / market basket of the base year) * 100 

nominal variables

variables that have not been adjusted for inflation

nominal income

amount of money one earns in the form of wages or a salary 

nominal GDP

the value of an economy’s output in current dollars

nominal interest rate

the stated interest rate

real income

purchasing power of a given wage or salary

real GDP

value of the economy’s output in inflation adjusted dollars

real interested rate

inflation adjusted cost of borrowed money

nominal salary concept

workers’ real income can fall even if the nominal income increases 

shortcomings associated with CPI

substitution bias

• fixed basket - market basket doesn’t change to reflect the consumer reaction to changes in relative prices 

• consumers substitute to goods that have become relatively cheaper 

introduction of new goods 

• market basket does not reflect changes in purchasing power brought on by new goods 

• new products result in greater variability and variety which makes each dollar more valuable (more purchasing power) 

• need fewer dollars to maintain a standard of living 

unmeasured quality changes 

• if quality of a good rises (falls) from one year to the next, the value of the dollar rises (falls) even if the price of the good stays the same

CPI overstates inflation rate

the role of living adjustments will be higher than they need to be

inflation

overall increase in prices that results in a decrease in the purchasing power of a nomrinal sum of money 

deflation

overall decrease in prices that results in an increase in the purchasing power of a nominal sum of money 

people who experience losses when inflation rate is higher than expected

beneficiaries of unanticipated inflation

anyone paying money at fixed amount such as borrowers 

anyone receiving money at fixed amount such as the lenders 

people of fixd income, SSN reciprocants, workers who are subject to multi-year wage contracts

nominal GDP characteristics

measure for how much is spent on output in a given period

not adjusted for inflation

value of aggregate output in CURRENT $ 

real GDP * (aggregate price level / 100) 

real GDP characteristics

measure of how much output is produced in a given period

adjusted for inflation

value of aggregate output in CONSTANT $

(nominal GDP / aggregate price level) * 100 

GDP deflator characteristics

measures the changes in prices for all goods and services produced in an economy in a given period which etlls the aggregate price level 

can be used to convert nominal GDP into real GDP for to convert real GDP into nominal GDP by using formula GDP deflator = nominal GDP / real GDP (also known as the implicit price deflator) 

GDP deflator can be used to calculate inflation rates 

using the rate of change formula 

inflation rate = (GDP deflator CY - GDP deflator BY) / GDP deflator of BY 

year 1 basket cost

year 1 prices * basket quantities

base year basket cost

base year prices * basket quantities

year 2 basket cost

year 2 prices * basket quantities

year 1 cpi

year 1 basket cost / base year basket cost

year 2 cpi

year 2 basket cost / base year basket cost

year 2 inflation rate

(year 2 cpi - year 1 cpi / (year 1 cpi) ) * 100

year 1 nominal GDP

base year prices * year 1 prices

nominal value

value measured in terms of money

real value

value measured relative to other goods/services, i.e. inflation-adjusted value

substitution bias

the tendency of the CPI method to overestimate inflation by ignoring consumers using cheaper products as substitutes for products that get more expensive

basket

a list of products a typical consumer buys in a year with a corresponding list of product quantities

disinflation

decrease in the rate of inflation

deflation

decrease in the price level, i.e. increase in the purchasing power of money

inflation

increase in the price level, i.e. decrease in the purchasing power of money

purchasing power

the quantity of goods/services that can be bought with a unit of currency

relative prices

the ratios between the prices of different goods and services in the economy

price level

an aggregate of the prices of goods and services in the economy, as measured by a price index such as GDP deflator or CPI

natural rate of unemployment

= structural unemployment rate + frictional unemployment rate + seasonal unemployment rate
synonym: full employment

cyclical unemployment

unemployment that is caused by a recession and that disappears once the economy recovers

seasonal unemployment

unemployment caused by certain kinds of jobs not needing workers during specific times of the year

frictional unemployment

short-term unemployment caused by people being between jobs

structural unemployment

unemployment caused by a mismatch between what employers need and what people in the labor force can offer (often due to technological change)

discouraged workers

people who want a job but are not actively looking

labor force

people who have a job or are actively looking for a job, 16 or older, not in the military, not institutionalized

accounting identity

a relation between variables that is true by definition

closed economy

an economy that does not trade with the rest of the world
antonym: open economy

exports

goods and services produced domestically and sold abroad

imports

goods and services produced abroad and sold domestically

government purchases

spending by federal/state/local government on final goods and services

investment (component of GDP)

spending by businesses on capital goods
+ net change in business inventory
+ spending by households on new houses

consumption (component of GDP)

spending by households on final goods/services (except new houses)

gross domestic product (GDP)

the total value of all final goods and services produced in the US