AP Macro Unit 2: Economic Indicators & The Business Cycle

Macro

why was it created?

1. measure the health of the whole economy

2. guide policies to fix problems

3 econ goals

1. promote econ growth

2. limit unemployment

3. keep prices stable

Gross Domestic Product (GDP)

• the dollar value of all final goods + services produced w/in a country’s border in 1 yr

What does it tell us?

• measures how well the US is doing financially

How can you measure growth from year to year? 

* % change in GDP = Y1-Y2/Y1 × 100

Why do some countries have higher GDP’’s than others?

1. econ system

2. property rights (rule of law)

3. capital

4. human capital

5. natural resources

Dollar Value

GDP is measured in dollars

Final Goods

GDP does not include the value of old goods

Standard of Living

amount of material well-being in a country

• can be measured by how well the econ is doing

* but it needs to be adjusted to reflect the size of the nation’s pop

GDP per capita

GDP divided by the pop, it identifies on avg how many products each person makes

• the most measure of a nation’s standard of living

Intermediate Goods

* not included in GDP

• products used as inputs in the production of other goods + services

• ex: GDP includes the price of a finished new car, not the stock radio or tires

Non-production transactions

transactions where no new goods + service is provided

• ex: stocks, bonds, existing real estate + used goods

Non-market & illegal transactions

illegal goods + services/products made at home

• ex: unpaid work, black markets, illegal drugs

Expenditures Approach

add up all the spending on final goods + services produced in a given yr

Income Approach

add up all the income that resulted from selling all final goods + services produced in a given yr

1. labor - labor (wages) income

2. land - rental (rent) income

3. capital - interest income

4. entrepreneur - profit income

* W + R + I + P

Value Added Approach

add up value added at each stage of production

Consumer Spending (C) 

purchases of final goods & services by household (approx. 70% of US GDP)

Investment Spending (I)

business spending on tools & equipment (approx. 16% of US GDP)

Government Spending (G)

purchases of final goods + services by the public sector. does not include transfer payments (approx. 17% of US GDP)

Net Exports (Xn)

exports (x) - imports (m)

• approx 7% of US GDp

Unemployment

workers that are actively looking for a job but are not working

Unemployment Rate

the % of ppl in the labor force who want a job but are not working

* UR = # unemployed/#in labor force x 100

Who is in the labor force?

• employed + unemployed

• 16 yrs old

• able + willing to work

• not institutionalized (jails/hospitals)

• not in military in school full time, or retired

Frictional Unemployment

* individuals that were fired/are looking for a better job

• temporal unemployment/being btwn jobs

• individuals are qualified workers w/transferable skills

Seasonal Unemployment

specific type of frictional unemployment which is due to time of yr + the nature of the job

Structural Unemployment

changes in the LF make some skills obsolete

• these workers do NOT have transferable skills + these jobs will never come back 

* must learn new skills to get a job 

Cyclical Unemployment

“demand deficient unemployment”

ex: steel workers laid off recessions high unemployment during great dep.

Natural Rate of Unemployment (NRU)

• many ppl assume our goal is 0% unemployment, but its not

frictional + structural unemployment r present at all times bc ppl will always be btwn jobs/replaced by tech

• this is the amount of unemployment that exists when the econ is healthy + growing

What could increase this?

• the UR can misdiagnose the actual UR bc of:

  • discouraged/underemployed workers + race/age inequalities

Full Employment Output (Y) 

the real GDP created when there is no cyclical unemployment 

• the US is at full employment when there is 6% unemployment 

Discouraged Workers

ppl who are no longer looking for a job bc they have given up

Underemployed Workers

someone who wants more hrs but can’t get them (stiller considered employed)

Race/age Inequalities

overall UR doesn’t show disparity for minorities + teenagers

Labor Force Participation Rate

% of the pop in the LF.

• if ppl leave the LF, the UR falls/decreases

* formula: #LF/total pop x 100

Inflation

rising general lvl of prices + it reduces the “purchasing power” of money

ex: 

• it takes $2 to buy what $1 bought in 1987

• it takes $6 to buy what $1 bought in 1970

* when this occurs, each dollar of income ill buy less goods than before

Deflation

decrease in general prices/a negative inflation rate

• bad bc ppl will hoard money + assets

Disinflation

prices increasing at slower rates

* inflation doesn’t affect everyone

Lenders

* hurt by (unanticipated) inflation

• ppl who lend $ (at fixed interest rates)

• ppl w/fixed incomes

• savers

Borrowers

* helped by (unanticipated) inflation

• a business where the price of the product increases faster than the price of resources

Nominal Wage

measured by dollars rather than purchasing power

Real Wage

measured by purchasing power

* adjusted for inflation

• if there is inflation (purchasing power), you must ask your boss for a raise

Menu Costs

costs $ to change listed prices 

* businesses must update menus, signs, etc

Shoe Leather Costs

costs of transactions increases

Unit of Account Costs

$ doesn’t reliably measure the value of goods/services

3 Causes of Inflation

1. Gov’t prints too much $ (the Quantity Theory)

2. Demand-Pull Inflation

3. Cost-Push Inflation

CPI

* Consumer Price Index

• the most commonly used measurement of inflation for consumers

  • the base yr is given in an index of 100

  • to compare, each yr is given an index # as well

* formula: price of market basket/price of market basket in base yr x 100

ex: 1997 MB: movie is $6 & pizza is $14; total=$20 (index of base yr = 100)

2018 MB: movie is $8 & pizza is $17; total=$25 (index of 125)

• this means prices have increased 25% since the base yr

Substitution Bias

as prices increase for the fixed market basket, consumers buy less of these products + more substitutes that may not be part of the market basket

* CPI may be higher than what consumers are really paying

New Products

the CPI market basket may not include the newest consumer products

* CPI measure prices but not the increase in choices

Product Quantity

the CPI ignores both improvements + decline in product quality

* prices stay the same

CPI vs. GDP Deflator

measures the prices of all goods + services produced, whereas the CPI measures prices of only the goods + services in the services brought by consumers

• an increase in the process of goods bought by firms/the gov’t will show up in this but not in the CPI

• this includes only goods + services produced domestically

• imported goods are not part of GDP + therefore don’t show up in this

* formula: nominal GDP/real GDP x 100

or nominal GDP= (deflator)(real)/100

Quantity Theory of Money

the avg times a dollar is spent + re-spent in a yr

* MV=PY

• M = money supply

• V = velocity

• P = price lvl

• Y = quantity of output

Demand-Pull Inflation

* demand pulls up prices

• too many dollars chasing too few goods

• an overheated econ w/excessive spending but same amount of goods

Cost-Push Inflation

• higher production costs increase prices

• a negative supply shock increases the costs of production + forces producers to increase prices

Real Interest Rates

the percentage increase in purchasing power that a borrower pays (adjusted for inflation)

* real = nominal interest rate - expected inflation rate

Nominal Interest Rates

the percentage increase in money that the borrower pays not adjusting for inflation

* nominal = real interest rate + expected inflation