econ macro lecture

macroeconomics

• science of aggregate structure and performance of entire economy

• interactions between different markets, economies, and countries

economic growth is comparable to

check ups

business cycles are comparable to

urgent care visits

gross domestic product (GDP)

the market value of final goods and services produced during a time period in a certain country

market value

• market price

• allows adding unlike items together by valuing at market prices

intermediate good

goods used up in the production of other goods and services

final goods

• finished goods

• goods that are not intermediate

capital goods

• stores value or helps create value

• used to create other goods

flow value

value over a period of time

stock value

value at a specific point in time

gross national product (GNP)

value of final goods and services produced by US citizens

product (value-added) approach

• focuses on production side of economy

• GDP = sum of all value added by all producers within a given period

value added

market value of production - cost of all intermediate goods

expenditure approach

• focuses on spending side of economy

• GDP = C + I + G + X - M

consumption (C)

spending by domestic households on all final goods and services

durable goods

tangible goods that last 3 years or more

nondurable goods

tangible goods consumed quickly

services

intangible items purchased my consumers

investment (I)

• residential fixed investment

• business fixed investment

• inventory investment

residential fixed investment

• spending on construction of houses and apartment buildings

• can generate future wealth

business fixed investment

spending on structures, equipment, and intellectual property products

inventory investment

increases in firms’ inventory holdings

government expenditures (G)

• spending by government

• military, education, public transportation, etc.

• should NOT include transfer payments

export (X)

spending on goods produced in country bought by foreigners

import (M)

spending on goods produced abroad purchased domestically

income approach

• focuses on the earning side of economy

• GDP = all income received in economy

what is missing in GDP?

• prices are not values

• non-market activities

• shadow economy

• leisure

• distribution of wealth

• environment degradation

real GDP

value production using constant prices

nominal GDP

value production using concurrent prices

growth rate

rule of 70

time to double = 70/growth rate

real GDP per capita

real GDP/population

physical capital (K)

physical tools, machinery, and structures that are used in the production process

labor (L)

working hours and number of workers

human capital (H)

the accumulated knowledge and skills that make a worker more productive (efficiency)

technology (A)

methods for using existing resources

aggregate production function

Y = Af(L,H,K)

three properties of production function

• increasing inputs

• constant return to scale

• diminishing marginal product

increasing inputs

L,H,K positive relationship with Y

constant return to scale

if double input, then output should also double

diminishing marginal product

the more workers you already have, the less productive the next worker will be(for a fixed amount of capital)

marginal product

change in output/change in input

labor market

a place where working hours are traded and where wage is determined

working population

general population excluding: people younger than 16, military, and/or persons confined in institutions

employed

working for pay

employed*

absent from job (vacation, sick, etc.)

unemployed

actively searching and available for work

unemployed*

on layoff waiting to be recalled

out of labor force

not searching and don’t want to work

labor force

unemployed + employed

unpaid intern?

unemployed

paid intern?

employed

unemployment rate

unemployed/labor force x 100

labor force participation rate

labor force/working population x 100

employment population rate

employed/general population x 100

frictional unemployment

unemployment caused by job search process

structural unemployment

unemployment caused by structural changes in economy

cyclical unemployment

unemployment associated recessions (business cycles)

inflation

generalized rise of prices

inflation rate

the annual percentage increase in the average price level

GDP deflator

nominal GDP/real GDP x 100

consumer price index (CPI)

index that tracks the average price consumers pay over time for a representative “basket” of goods and services

CPI formula

cost of basket in current year/cost of basket in base year x 100

what is missing from CPI

• quality improvement

• new products

• substitution bias

quality improvement

price increases are likely due to unmeasured quality improvements

new products

product innovation replaced many goods and services on which people previously spent lots of money

substitution bias

when price rise, you substitute what’s in your basket to find cheaper ways to achieve the same quality of life

Core CPI

CPI excluding spending on food and energy

Personal Consumption Expenditure (PCE)

also includes goods and services provided for consumers

• ex. benefit packages

Producer Price Index (PPI)

tracks the price of inputs used by businesses

expected cost of inflation

creates menu costs for sellers

menu costs

changing prices from producer perspective costs money and time

unexpected costs of inflation

• confuses the signals that prices send

• can distort comparisons from different time periods

purchasing power

the amount of goods and services one unit of money can buy

formula for comparing different times’ dollar

today’s dollar = another time’s dollar x (price today/price another time)

interest rate

the benefit of saving and the cost of borrowing

nominal interest rate

the stated interest rate without correction for inflation

real interest rate

interest rate in terms of changes in your purchasing power

fisher equation

• real interest rate = nominal interest rate - inflation rate

• nominal interest rate = real interest rate + inflation

money

as asset regularly used in transactions to exchange goods and services

medium of exchange

use money to buy what you want instead of trading items

unit of account

a common unit that people use to buy what you want (measuring stick)

store of value

allows you to shift your wealth to the future

loanable funds market

market where saver and borrower trade funds

functions of banks

• take savings into loans

• spread risk across many investments and savers

• solve info problems

treasuries

bonds issued by the US government

bond

• an IOU

• a promise to pay back a loan with interest

stock market

the market where people buy and sell existing stocks

outcomes of AD and AS

• average price level (GDP deflator)

• aggregate output (real GDP)

macro equilibrium

where the quantity of output that buyers plan to purchase equals the quantity of total output, at a given price level

aggregate demand (AD)

shows the relationship between the price level and the total quantity of output that buyers collectively plan to purchase

why AD slopes down

• wealth effect

• interest rate effect

• international trade effect

wealth effect

as price goes up, purchasing power goes down

interest rate effect

people choose to invest more or less (P goes up, I goes down)

international trade effect

how is X- M today affected by price (P goes up, NX goes down)

aggregate supply

shows the relationship between price level and total quantity of output that suppliers collectively plan to produce

sticky prices

phenomenon that prices tend to adjust sporadically and sluggishly to changing market condition (sticky in goods and labor market)

what shifts AS?

anything that changes the cost of production

steps to economic analysis

1. effect AD or AS or both?

2. how will it shift?

3. impact

what is output in the long run?

potential output