AP Macro Unit 2 Exam review
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76 Terms
What is GDP
The measure of a country’s final output during a year
In the circular flow diagram, what do households own
The factors of production: Land,Capital, labour, and entreperenurial ability
In a factor market what do companies purchase
They purchase the factors of production
What do business entities that purchase factors of production do with them
Produce finished products and sell them in the product market
What does the circular flow model show
It shows how money, resources, and goods and services flow between households and firms
What does the outer flow in a circular flow model represent
The exchange of factors of production and goods and services between households and firms
What does the inner flow in a circular flow model represent
The flow of money between households and firms
Why are households motivated to provide their factors of production
They can earn income to buy desired goods
Why do firms buy factors of production
They are motivated by profit
What are the three ways to measure GDP
Income approach
Expenditure approach
The value added approach
What is the income approach
The income approach measures Gdp by totalling all money income households earn in a year: Total wages + Interest income + Rent + Profits
GDP= W + I + R +P
What is the expenditure approach
Combining the four components of a country’s aggregate expenditures
GDP= C + I + G + Xn
What is the value-added approach
Measures the amount spent during each stage of the production of an economy's final output
What is consumption spending
All household spending on finished goods and services
What are Durable goods
Goods bought and used on an ongoing basis
What are nondurable goods
Consumable goods that are used up quickly
Are financial assets included in GDP
No, stocks, bonds, and other financial instruments are excluded in Gdp
What are the factors that influence consumption spending
Taxes - increased taxes decreases consumption - decreased taxes increases consumption
Consumer confidence - higher confidence = higher consumption - lower confidence = lower consumption
Expected inflation or deflation - inflation - more consumption - deflation - less consumption
Interest rates - higher rates = less consumption - lower rates = more consumption
What is investment spending
The business spending on capital equipment, technology, and household spending on new housing or real estate in the aspiration that income will be generated from the investment
What influences investment spending
Interest rates - higher rates = lower investment spending - lower rates = increased investment spending
Business confidence - higher business confidence = increased investment spending - lower business confidence = lower investment spending
Expected inflation or deflation - inflation = increased investment spending - deflation = decreased investment spending
Government regulation - higher regulation = less investment spending - lower regulation = more investment spending
What is Government spending
Government spending on the public sector spending on final goods and services in the economy
For a dollar to be spent in the U.S what has to happen
A dollar has to be earned
Where does revenue for the government primarily come from
Income taxes
Consumption taxes
What is a budget deficit and a budget surplus
When a government either spends more than it earns from tax revenue or spends less than it earns from tax revenues
When government spending increases what happens to GDP
It increases
When government spending decreases what happens to GDP
It decreases
What are Exports and what are Imports
Exports: The goods and services a country sells to the rest of the world
Imports: The goods and services that a country buys from the rest of the world
What happens to GDP when exports increase or decrease
Increase: GDP increases
Decrease: GDP decreases
What is the formula for net exports
Exports - Imports
What are the factors that determine net exports
The exchange rate - decrease in the exchange rate = increase in net exports - increase in exchange rate = decrease in net exports
Incomes abroad - Foreign income rises = Net exports increase - foreign income decreases = Net exports decrease
Relative price levels - When price levels are cheap = net exports increase - when price levels are expensive = net exports decrease
What are the Limitations of GDP
Ignores all social aspects of Human life - income distribution, access to healthcare and education, life expectancy
Non-Market transactions - work done at home, volunteering
Black Market transactions - If the government is unaware of a transaction then it isn’t counted towards GDP
Does not reflect improved product quality - Innovation is not taken into account in GDP
GDP does not put a market value on the enviroment - doesn’t account for the enviroment
GDP does not indicate the best combination of goods and services to be produced
What is the definition of unemployment
The state of a person who is not working but is actively seeking a job as well as over the age of 16 and available for work.
What is the labour force and its formula
The total number of people who are both unemployed and employed
Unemployed people + Employed people
What is the unemployment rate and its formula
The rate of the labour force that is unemployed
#of workers unemployed/total labour force X 100
What does the labour force include
Includes all civilians of the adult population over the age of 16 who are working, full time or part-time, or unemployed
Who are people who are not part of the labour force
People who are not actively looking for work, engaging in leisure time, going to school or volunteering
When a economy has a high unemployment rate, what does that represent
It represents that the economy is not using its resources effectively and is in a recession
When a economy has a low unemployment rate, what does that represent
It represents that the economy is using its resources effectively and is in economic growth
What is the labour force participation rate and its formula
It measures the percentage of the eligible population that is participating in the labour force
LFPR = # people employed + #people unemployed/ adult population X 100
When a economy is doing well what happens to the labour force participation rate
It increases as wages may have risen
When a economy is not doing well what happens to the labour force participation rate
It decreases as unemployed people become discouraged and give up looking for jobs
What are the limitations to the unemployment rate
Underemployed workers- people who want to work more hours but can’t are still considered employed
Workers who can’t find work due to their qualifications
The unemployment rate increases as economic prosperity increases as discouraged workers return to the labour force
What are the types of unemployment
Frictional unemployment - someone who is in between jobs (looking for a job) or someone who is entering the labour force
Structural unemployment - someone who’s skills are no longer in demand by employers because of the changing structure of society
Cyclical unemployment - When workers whose skills would be normally in demand in a healthy economy lose their jobs because of a downturn in the business cycle (recession)
What is the natural rate of unemployment and what is the formula
The unemployment rate that should prevail when the county is producing at its full employment level of output
Frictionally unemployed + Structurally unemployed/ Labour force X 100
When a country is at full employment, what still exists
The natural rate of unemployment
What causes the natrual rate of unemployment to change
Factors that change frictional and structural unemployment
What causes Frictional unemployment to change
Changes in job availability
Labor mobility
Skills mismatch
What causes a change in structural unemployment
Changes in industry demand
Technological advancements
Shifts in workforce skills
What does the price index measure
The changes in general price level over time
What is the consumer price index
A measure that examines the change in income a consumer needs to maintain the same standard of living over time under a new set of prices
What is the CPI used to mesure
It is used to calculate the inflation rate or the rate of change in the average price level of consumer goods and services in a time period of two years
How do you calculate the CPI from a market basket for the base year, and the second year
For the base year: price of the basket of goods/price of the basket in base year x 100
For the second year: price of the basket in the second year/price of the basket in base year x 100
How do you mesaure inflation with the two cpis
Inflation rate= CPI of year 2 - CPI of year 1/CPI of year 1 X 100
From the formula new-old/old
As inflation increases what happens to real income and when inflation decreases what happens to real income
Inflation increases: Real income decreases
Inflation decreases: Real income increases
What is the formula of real interest rates
Real interest rates= Nominal interest rate - inflation
When inflation occurs what happens to lenders and borrowers
Borrowers: they are better off as the money they are paying back is worth less
Lenders: they are worse off as the money they are receiving is worth less
What are some shortcomings of the CPI
The substitution bias - doesn’t consider people will switch to cheaper goods
Inflation has what effect on real wages and real interest rates
It reduces real wages and real interest rates making people on fixed incomes and savers with fixed interest rates worse off
What is inflations effect on the redistribution of wealth
It can redistribute wealth from lenders to borrowers, as the value of debt decreases with inflation, benefiting borrowers at the expense of lenders.
What is nominal GDP
The measure of how much is spent on a country’s output in a year - the value of output produced in a year
When does nominal GDP increase
When either quantity of output increases or when prices increase
What is Real GDP
It measures the value of a nation’s output in prices from a base year - GDP ignores inflation and only focuses on whether actual output has increased or decreased over time
What happens to real GDP when the price level increases or decreases
Increases: real gdp will be lower than nominal GDP
Decreases: Real GDP will be higher than nominal GDP
How to calculate total value of output when calculating nominal GDP
Quantity produced X price
What is the nominal GDP growth rate
The GDP growth rate is the percentage change between two years
Nominal GDP = Year 2 nominal GDP - Year 1 nominal GDP/Year 1 nominal GDP X 100
How to calculate total value of output when calculating real GDP
Quantity produced X price in the base year
What is the real GDP growth rate
Real GDP growth rate = Year 2 Real GDP - Year 1 Real GDP/ Year 1 GDP X 100
What is the GDP deflator and what is its formula
The GDP deflator is a measure of inflation - how much the price level changed
Formula: GDP deflator = Nominal GDP/Real GDP X 100
What is the business cycle
It shows how a country’s real GDP fluctuates over time because of changes in aggregate supply or aggregate demand
What is an expansion phase in the business cycle
When GDP increases
What is a peak in the business cycle
When GDP stops increasing and begins to decrease
What is a recession in the business cycle
When GDP decreases
What is a trough in the business cycle
A turning point in which GDP stops decreasing and begins to increase
What is an output Gap
During a Expansion or a recession when the economy is producing either more or less than its expected output
What is potential output called and what is its relation to employment
It is also called full-employment output and it means that when a government is at its potential output it is at its natural rate of unemployment, when a government is in a positive output gap unemployment is less than the NRU and when a government is in a negative output gap, unemployment is greater than NRU