UNIT 3: MACROECONOMICS :p

Leakage

Leakage

Taxes

Leakage

Imports

Leakage

Saving

Injection

Government Spending

Injection

Investments

Injection

Exports

GDP

C + I + G + (X-M)

Nominal GDP (nGDP)

Represents the GDP value at current prices (which includes inflation). 

Real GDP (rGDP)

Represents the GDP value that accounts for price changes over time (excludes inflation)

rGDP

( nGDP/deflator ) x 100

GDP Deflator

• Price index that measures a change in price relative to a base year

• The index number for the base year always equals 100

( nGDP/rGDP ) 100

Gross National Income (GNI)

Measures total income received by residents of a country. 

GNI =

GDP + net income from abroad

Strengths of National Income Statistics

• Help a country measure its economic growth (or contraction) 

• Help governments shape economic policies 

• Develop models and make economic forecasts

• Help businesses plan and make decisions

• Help compare different countries 

• Evaluating living standards or quality of life   

Shortcomings of National Income Statistics

• Do not include ‘non-marketed’ output

• Do not include goods/services sold in underground/parallel markets

• Do not account for product quality improvement and consequent lower price

• Do not account for negative externalities: pollution, environmental degradation, etc. 

• Disregard depletion of natural resources

• Do not account for differences in domestic price levels 

• GDP/GNI don’t accurately measure standards of living because they ignore:

  • Composition of output

  • Levels of education, health, life expectancy, etc. 

  • Information about income distribution or inequality

  • Productivity/efficiency

  • Non-economic quality of life factors

    • Crime, corruption levels, political/individual freedom, etc.

Purchasing Power Parity

Compares the purchasing power of a country’s currency based on a “basket of goods”. Method of currency conversion that accounts for differences in price levels between countries.

OECD Better Life Index bases it on

• Material living conditions: Housing, income, jobs

• Quality of life: Community, education, environment, governance, health, life satisfaction, safety, work-life balance

Happiness Index

• GDP per capita

• Social support

• Healthy life expectancy

• Freedom to make life choices

• Generosity

• Perceptions of corruption

Happy Planet Index

• Concerned with ‘happiness’ of the planet (sustainability) but most importantly Leeyah Belbase’s happiness

• Weighs wellbeing, life expectancy, and inequality against an ‘ecological footprint’

AGGREGATE DEMAND

The total spending on goods and services in a given time at a given price level.

Components of Aggregate Demand and their Determinants 1

Consumption: taxes, interest rates, wealth, confidence/expectations, household debt

• Changes in income taxes

  • Higher taxes = less disposable income, resulting in a fall in AD and vice versa

• Changes in interest rates

  • Higher interest rates → borrowing money is more expensive → less borrowing and consumption and vice versa

  • Higher interest rates → saving is more attractive (like Leeyah Belbase) more saving = less spending 

• Changes in wealth (income ≠ wealth; income is money earned, wealth is composed of assets)

  • Changes in wealth usually based on two factors:

    1. Housing prices

    2. The value of stocks and shares

• Changes in consumer confidence/expectations

  • Economic optimism results in higher spending in the present

  • Expectations about future price levels also affects spending  

• Level of household debt

  • Low interest rates mean more borrowing (debt) and spending; higher interest rates mean it becomes more costly to service debts, ∴ less spending

Components of Aggregate Demand and their Determinants 2

Investment: taxes, interest rates, technology, confidence/expectations, corporate debt

• Changes in interest rates

  • Inverse relationship between interest rates and investment

  • Higher interest rates = more saving, less investment

• Changes in business taxes

  • Higher taxes mean less money for investment, resulting in a fall in AD

• Technological changes

  • The need to adapt to technological changes and compete will result in increased investment, and therefore, higher AD 

• Changes in business confidence/expectations

  • Business investment levels are dependent upon their confidence in the economy (remember, increased investment → increased AD) 

• Levels of corporate debt

  • Higher debts to service mean less money for investment, resulting in a fall (like how everyone falls for Leeyah Belbase) in AD

Components of Aggregate Demand and their Determinants 3

Government spending: political + economic priorities

• More government spending → increased AD and vice versa

• Changes in political and economic priorities can affect AD

Components of Aggregate Demand and their Determinants 4

Net Exports: 

• Changes in export levels

  • Increased foreign incomes = higher exports, increased AD and vice versa

Currency appreciation = more expensive exports, reduced AD and vice versa

AGGREGATE SUPPLY (SRAS)

the total amount of goods and services produced by all industries in the economy at a given period at every price level.

Short-Run Aggregate Supply (SRAS)

AS during the time period when the prices of the factors of production are fixed.

Components of SRAS

“Supply shocks” shift the SRAS curve and change the cost of FOPs. These are changes in:

• Wage rates 

  • e.g. increase in minimum wage

• Cost of raw materials 

  • e.g. fluctuations in oil prices

• Price of imports

  • e.g. exchange rate fluctuations, foreign raw material prices

• Government subsidies or indirect taxes

Components of LRAS

change of factors of production

Quality and quantity