Unit 2: Economic Indicators & Business Cycles

CPI refers to market basket//Households are on the demand side of the product market and the supply side of the resource market.//Business firms supply goods and services in the product market (they sell products to households). Business firms demand labor and resources in the resource market (they hire workers and buy inputs like raw materials).

Market

where producers look to sell goods and services and consumers look to buy goods and services

Macroeconomics

the study of the large economy as a whole; the big picture

-instead of analyzing 1 consumer/business, we analyze everyone/all businesses

Why would we want to study the whole economy

The field of macroeconomics was born during the Great Depression. The government didn’t understand how to fix a depressed economy with 25% unemployment.

-Macro was created to: measure the health of the whole economy & guide government policies to fix problems

What do we do in order to see how the economy is doing?

Economists collect and analyze statistics on production, income, investment, and savings—National Income Accounting

3 Goals of Most Economies

Grow (Real GDP), control inflation, limit unemployment

Gross Domestic Product

Most important measure of growth; The dollar value of all final goods and services produced within a country’s borders in one year

Value Added Method (calculating GDP)

Surveying firms to find out the total value of what they produced

Income Method (calculating GDP)

How much income labor makes for helping to produce G & S

Expenditure Approaach

focuses on what people and businesses spend money on; Can I Get (X-Men); C+I+G+(X-M)

Consumer Expenditures

Any domestic items or services made for final consumption for consumers. This is the largest component of our GDP

Investment goods

Things that businesses spend money on to add value to their company are investments

Government Purchases

Domestically made things the government spends money on add to our GDP

What government expenditure does not count towards GDP?

Transfer payments do not count (Social Security, Welfare)

Exports

Something made in this country that is shipped out to another country

Imports

Products made in other countries but are bought here count against the US GDP

Trade Deficit

dollar value of how much imports exceeds exports

Common Expenses not included in GDP

intermediate goods, non-production transactions, non-market and undocumented activities, government transfer payments

Intermediate goods

no multiple counting, only final goods (price of finished car, not the radio, tire, engine, etc.)

Non-production transactions

financial transactions (stocks, bonds, real estate), used goods (old cars, used clothes)

Non-Market & Undocumented Activities

Illegal activities, unpaid work, babysitting

Government transfer payments

social security, welfare

Civilian Labor Force

total # of employed and unemployed persons, adjusted seasonally

Who is in the labor force?

16+ yrs old, able & willing to work (not institutionalized, not in military, school full time, retired)

Employed

have a full or part-time job

Unemployed

Those in the labor force who are actively looking for work (for the past 4 weeks according to USBLS) but are not currently employed

Unemployment rate

the percent of people in the labor force who are actively looking for a job but not working

Equation for Unemployment rate

unemployment rate= unemployed/labor force x 100

Labor Force Participation Rate

% of adult population that is in the labor force

Labor Force Participation Rate Equation

=employed+unemployed/population aged 16 & over x 100

Marginally Attached Workers

would want a job but not currently looking for a job and thus not technically “unemployed”

Discouraged Workers (reason for being marginally attached worker)

have given up hope of getting a job so they’re not searching

Underemployed Workers

would like a full time job but don’t think they can get one so they’re working a part-time one; working a job that they are overqualified for

Two groups that have a higher unemployment rate than average

1) Younger or older than the “prime” working years of 25-54

2) Certain minority groups

3 types of Unemployment

Frictional, structural, cyclical

Frictional Unemployment

temporarily unemployed or being between jobs (college graduate); seasonal unemployment

Structural Unemployment

more qualified workers than actual jobs at the current wage rates; skills are no longer useful because of technology

Cyclical Unemployment

results from economic downturns (recessions); 

• in tough economic times, the demand for goods and services fall, demand for labor falls and workers are laid off

Full Unemployment

only the natural rate of unemployment; no cyclical unemployment; 4-6% is normal

Consumer Price Index

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

What the BLS uses to come up with CPI

Track the price of a fixed market basket of goods and services each month

Inflation

overall increase in prices; this decreases the purchasing power of one’s income

How do we know that inflation is occuring

When CPI rises; each dollar income will buy fewer goods and services than before

How do we know if deflation is occuring

if CPI decreases

Deflation

overall decrease in prices; prices deflate

Inflation Rate

the percent increase in the overall level of prices per year

Hyperinflation

the severe and rapid rise in price level caused by a severe increase in the money supply

Calculating the Market Basket

When calculating the market basket, you always want to make sure that you’re using the same quantity of the same goods

Calculating CPI

price of a market basket in a given year/price of the same market in the base year x 100

Inflation Rate equation

New CPI-Old CPI / Old CPI x 100

Why CPI might be inaccurate

substitution bias, introduction of new goods, Unmeasured quality changes

Substitution Bias

Consumers typically alter the mix of goods and services by buying less of things that have become relatively more expensive and more of things that have become relatively cheaper

• Ex: If the price of ice cream goes up, you can buy popsicles instead for cheap

Introduction of New Goods

components of the market basket are only updated usually 4-5 years

• Ex: if movie ticket prices rise but more people are paying for streaming subscriptions, the CPI might show higher spending on movie tickets, even though consumers are actually spending more on subscriptions

Unmeasured quality changes

if the quality of a good changes from one year to the next, the value of one’s money also changes, even if the prices stay the same

• Ex: low quality tv for $2,200 and new quality tv for $2,200 years later but the value of money has increased

Nominal GDP

how much is spent on output; that year’s prices; prices used are inflated

Real GDP

How much is produced; base year’s prices; The prices used have been deflated to give a more accurate measure of production

How to calculate gdp

1. Calculate the PRODUCTION of all final goods & services (firms are surveyed)

2. Calculate the INCOME earned by households from firms in the economy

3. Value of SPENDING on domestically produced final goods and services

How to calculate real gdp

• Convert the current year’s prices into the base year’s prices

• GDP Deflator

GDP Deflator

Nominal GDP/Real GDP x 100

CPI determines

• determine how purchasing power has changed over time

• Based on changing prices of a fixed market basket

• Reflects the prices of goods and services bought by consumers

  • Meaning C (includes imports)

GDP Deflator determines

• how output has changed over time

• Based on the goods and services produced in a given period

• Reflects all prices of all goods and services produced domestically

  • Meaning C, I, G, X

Real GDP per capita

• A measure of a nation’s standard of living

• calculate: Real GDP divided by the total population

• A sustained increase in real gross domestic product per capita

Aggregate

A whole is formed by combining several elements

the business cycle

Fluctuations in aggregate output (production)  & employment

Recession

6-month period of decline in Real GDP

Declines in production/output, income, employment

6 Characteristics of a recession

More unemployment, decrease in real GDP, reduced job growth, lower interest rates, decreasing prices, more social problems

Economic depression

A prolonged and severe recession

• Severe declines in production/output, income, employment

Expansion

A period where there is an increase in Real GDP 

• Increases in production/output, income employment

6 characteristics of an expansion

less unemployment, increase in real GDP, rapid job growth, increasing interest rates, increasing prices, fewer social problems

Peak

Highest point of a business cycle where the expansion stops and a contraction/recession begins

Trough

Bottom stage of a business cycle where a recession stops and a recovery begins

Why does GDP increase during war

Government expenditures go up to produce military weapons, medical items, training

Goals for a government

1) Promote long-term growth (GDPr)

2) Prevent cyclical unemployment (resulting from a recession)

3) Minimal inflation (resulting from a recovery/expansion)

How do we know we are experiencing economic growth?

1) An increase in real GDP over time

2) An increase in real GDP per capita over time (usually used to determine standard of living)

4 desirable things from economic growth

1) Provides better goods and services

2) Increases wages and standard of living

3) Sometimes allows more leisure time

4) Economy can better meet wants